Friday, December 08, 2006

The Clever Look for Clues

EUR/USD 1.3342 Hi 1.3351 Low 1.3237
USD/JPY 115.01 Hi 115.91 Low 114.95
AUD/USD 0.7919 Hi 0.7925 Low 0.7868
EUR/JPY 153.44 Hi 153.73 Low 152.94

Well we keep getting more data and the really clever are sifting through it looking for clues. Today saw the release of November Non-Farm Payrolls for November in the States. Big deal. Now we will have all the pin heads out there talking about their significance and why they are important and "if there was a real chance of recession in the States then there wouldn't be any job growth". Blah, blah, blah. If there was ever an argument AGAINST sending lots of people to University this is it. These very smart people, the priests of our age, would have us believe that if you turn the data around in just the right light then its REAL significance will become apparent. A significance which is not apparent to the untrained eye at first glance. So I'll leave the interpretation of the minutiae of the data to the very learned.

Let's stick to the facts. And the facts are not inspiring. Unless you believe finding yourself in the sea of debt without an income is inspiring. And that, in a nutshell, is where the United States finds itself right now. Although the very learned may believe that there is a magic way of digging yourself out of a financial nightmare. In fact there isn't. The United States is in debt to the rest of the world, it does not produce more than it consumes, in fact it consumes more than it produces. Hence levels of U.S. external debt are destined to grow. The U.S. is not running a Trade Surplus, it is not running a Current Account Surplus in fact deficits in both are at RECORD LEVELS. That is they are levels never before recorded in U.S. history. As you may intuit that is not good. In addition, the U.S. finds itself at war in two foreign countries, essentially without allies. Both wars are going badly. The U.S. Administration has not proved itself adept at anything much and is unlikely to be able to resolve its Foreign Policy dilemma with flying colours. Hence the low profile of the supposed Foreign Policy "whizz kid", Condoleezza Rice.

But it gets worse. At this crucial time in its history, with a desperate need for foreign capital inflows JUST to keep the show on the road, the U.S. finds itself surrounded with suspicion. Which is what happens when you start major aggressive wars against the advice of the U.N. and disparage your critics openly. Not that the New York Post has changed its mind. Oh, no. Now, in addition to the French and the U.N., the authors of the recent report on Iraq are being disparaged as "Surrender Monkeys". The war in Iraq must go on and it must be won. To this end Mr. Rupert Murdoch, the American Citizen, has decided to volunteer all of his adult children for active duty in Iraq. Just kidding. But then you knew that didn't you?

So the U.S. finds itself in debt, not producing enough to finance its way in the wider world, at war, without friends and in a world where nobody likes them and/or trusts them any more. And if you still trust the current U.S. Administration here are two words: Tony Blair. Tony Blair bought into the George W. international game plan early on in order to escape criticism for his less than stellar domestic performance. As a direct result his international track record has now completely eclipsed his domestic track record as a complete disaster. Another own goal for Tony.

There is no easy way out of this mess. No magic solution. 10,000 extra jobs here or there are not suddenly going to make the U.S. economy a model economy because the U.S. economy is not a model economy and it is not turning a corner. Unless for corner you mean slippery slope. If the U.S. had found a real way out of its financial morass by say inventing some spectacular new industry we would have noticed by now. We would all be buying products "Made in the U.S.A.". And we're not. You may have noticed. So if the optimists are reduced to digging around in the minutiae of the data we have a problem. And to suggest that the U.S. Bond market is selling off because a U.S. recovery is coming rather than because the offshore investor is NOT (coming that is) is disingenuous to say the least.

Meanwhile in the EuroZone Trichet had his little conference, attempted to polish up his reputation and hiked rates. He also rather pointedly refused to notice what is happening to the exchange rate but his buddies back in Paris have sure noticed and they are not happy. Rate hikes, for now, are OFF the agenda in Europe and all options are on the table. And that means, if things in the U.S. really start to turn ugly, rate CUTS are on the table. "A priori" (I do wish he would learn to pronounce "a priori" and "unwind") nothing is excluded. Not that this "ALL OPTIONS" turn of events is going to do much more than slow the USD descent. Mr. Trichet may rub his hands in glee at being the Central Banker with the mostest (315 million people) but things in the EuroZone are going to be infinitely more complicated as a result of a U.S. economic downturn. And neat, tidy supposed straight-line correlations aren't going to be enough to save Trichet's bacon if things get tricky. So after the FED PAUSE we have the ECB PAUSE. What we don't have is a case for a USD rally.

OIL 63.36
GOLD 634.70

If the USD rally is over, as appears likely, then so is the GOLD correction. It's back to PLAN A. And Plan A involves DIVERSIFICATION, selling USDs and buying GOLD.

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Wednesday, December 06, 2006

When do we Stop Cheering U.S. Stocks: Today?

EUR/USD 1.3270 Hi 1.3342 Low 1.3254
USD/JPY 115.10 Hi 115.26 Low 114.52
AUD/USD 0.7859 Hi 0.7892 Low 0.7846
EUR/JPY 152.77 Hi 153.13 Low 152.44

Well the U.S. Stock Market just can’t stop cheering. Although it has be pointed out ad nauseam that the U.S. economy is in for some pretty hard times in the months ahead AND that the FED may not be in a position to EASE, given the risks for the USD, Stock Markets just keep on rolling. Yesterday we saw more of the same. According to data released yesterday Factory Orders fell 4.7% in October. The market ignored the bad news and cheered the ISM Non-Manufacturing October Index instead. Or at least the Stock Market did.

The U.S. Bond Market seems to be running into something of a brick wall and no-one can work out if it's fear of inflation or fear that international investors will desert future Treasury Auctions because of the USD risk. Time for a bit of blood letting in the U.S. Treasury market. Everyone is long, volatility is rising, year end is coming up and no-one can afford to take any more losses on anything. So stops could be triggered.

Yesterday also saw the release of REVISED productivity numbers for the Q3. And the improvement recorded in productivity was LESS than what was hoped for. Productivity rose a meagre 0.2% in Q3, the market was expecting a rise of 0.5%. Not that the Stock Market took any notice. The Democrats are back in control of both Houses and the Bush Administration is under siege pretty much on all fronts. The possibility that the American Worker will continue to be squeezed in the interests of improved Company Profits is small. This means rising Labour Costs and lower Productivity. It also means a redistribution of income which is somewhat late in coming by about, oh, two decades. This is also potentially inflationary. In the sense that if you actually have to pay people enough to get by on, that’s an increase in your cost base. This also erodes your profit margin. Why U.S. Stocks continue to cheer this scenario is beyond me.

And the news out of Europe, while on the whole positive, is not without the odd wart. Today we saw the release of German Factory Orders for October. The numbers were bad. U.S. numbers are not great, the fall-out in Asia from the U.S. economic slow down is likely to be bad and tomorrow Trichet will announce a Rate Hike. All up not great times for Stock Markets in Europe. It has been a one-way street for equities in Europe since the "correction" we had in May. While a softly, softly approach by Trichet may help calm nerves the upside from here in European equities appears limited.

FOREX Markets are taking the opportunity to close a few positions and hunker down for the Thursday's ECB rate hike and U.S. Employment numbers Friday. So we are seeing USD buying. This little wave of USD buying interest is unlikely to last much beyond Friday but in the meantime we do have a lot of short term speculative positions to close. Ignoring what is happening on markets is NEVER a good strategy unless you have a very long term investment perspective. Right now there are maybe half a dozen players in the market with that kind of long term perspective.

OIL 62.17
GOLD 642.20

GOLD keeps failing to break the USD 650 level. I read somewhere (if I could remember where I would link to the page) that GOLD just featured on the cover of a magazine as the Investment of the Year, or something like that. The comment? "The Kiss of Death". The USD has firmed marginally, there are increasing concerns about the strength of the U.S. economy, the impact this will have on the Asian economy and the fall-out for commodities, so we may be in for some profit taking here. Plus we have numerous commentators calling for GOLD to reach something like USD 2,000 in the nearish term, which is not a bullish market signal. We could see a little bit of a clear out in the GOLD market short term while all the various speculators and Hedge Funds rush for the exits.

OIL is hovering. Bad numbers out of the States could encourage selling as the bearish view on commodities takes hold. OPEC has its work cut out for it.

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Tuesday, December 05, 2006

If You are Waiting for Cracks: Watch Japan

EUR/USD 1.3330 Hi 1.3365 Low 1.3296
USD/JPY 114.73 Hi 115.46 Low 114.43
AUD/USD 0.7858 Hi 0.7900 Low 0.7854
EUR/JPY 153.00 Hi 153.92 Low 152.61

This week is a big week. What everyone is waiting for is the answer to the question of the year: hard landing or soft landing? Last week pretty much all the data released in the United States, with the exception of the upward revision to Q3 GDP, came out well below market expectations and in line with the Hard Landing scenario. This week we have November NFP which will be examined remorselessly for clues about where the U.S. economy is heading. This is interesting because Non Farm Payrolls are, in fact, a lagging indicator of economic activity and don’t really give an accurate indication of where the economy is heading. For now the market is looking for an increase of 105,000. What everyone is waiting for is the slow-down in the Housing Market to show up in the employment data. So far it hasn’t, but it will.

We also have the ECB meeting on Thursday. Another 0.25% hike is expected. Trichet is reportedly not worried about the Euro appreciation or a possible U.S. recession. Indeed, in a recent press briefing Trichet airily dismissed the impact of a possible U.S. recession on growth in the EuroZone. The U.K. he assures us is a more important trading partner for the EuroZone than is the United States. According to ECB calculations a 1% fall in U.S. GDP should only translate into a 0.2% reduction in GDP growth in Europe. Despite the holistic nature of, well, everything, the man obviously still believes in straight-line correlations, econometric models and the existence of the "independent variable". So "Old Europe".

The EuroZone will get its rate hike Thursday but the real focus will be on the press conference for signs that more are coming, or not. Extreme vigilance or wait and see? An inordinate amount of energy is expended interpreting the "Trichet code". However there are growing concerns in Europe about the international economic environment and, despite his airiness, Trichet is unlikely to indicate anything more than a vigilant monitoring of the economic trends both internationally and within the EuroZone. According to some commentators, notably the super-bear at Morgan Stanley, there is more airy nonchalance about economic risks in Asia at the moment than there is in Europe. Europe is only just emerging from a fairly difficult decade and nowhere is there more awareness of the risks of overplaying the Monetary Policy card than in "Old Europe". So, potentially, the post-hike conference could be bullish for Stock Markets. Or, at least, could lead to some short covering after the recent correction. If Trichet goes with "Extreme Vigilance", however, all bets are off.

While all eyes are on the U.S. and the USD, which indeed is in very bad shape, in Asia, as Stephen Roach has correctly pointed out, the risks of a hard landing are starting to build. And the weakest link at the moment is Japan.

The Japanese track record in economic management, despite the miracle economy and their capacity for producing sellable goods, is somewhat spotty and the median age of the people in charge at the BoJ is something like 120. Whizz kids they are not. Economic policy in Japan has produced poor results for more than a decade and yet, strangely for a country that came up with the Meiji Revolution, all that is on offer is more of the same. The Japanese try to prevent an appreciation of the YEN by buying USDs and they keep parking the proceeds in U.S. Treasuries, which sends all sorts of weird signals to the U.S. Government. The main one being: keep spending on anything you want we’ll keep providing the cash. The distortions this creates on both sides of the Pacific are vast and are likely to prove ultimately unsustainable.

This year the Nikkei has racked up a gain of just under 1% YTD, and is still something like 50% below the peak it reached in the early 1990s. The YEN has begun to strengthen and more appreciation is likely as the stops are triggered on the YEN Carry Trade.

Despite all the talk of a demand-led recovery taking hold in Japan, Japan is still an export-orientated economy. A stronger Yen and a weaker U.S. economy will make exporting more difficult. In addition, Japan looks likely to take a financial loss on its USD denominated assets, of which it currently holds A LOT, in the case of a sustained, substantial depreciation of the USD/JPY. So far this year we have not seen a major USD/JPY correction but all the indicators suggest that is where we are heading. A test of 110.00 doesn’t look unlikely for the USD/JPY by year end.

The ECB move this week is unlikely to provide impetus for more EUR/USD gains. Buy the rumour, sell the fact. Longer term players should note that the USD downtrend is not over yet. Not by a long shot.

OIL 63.11
GOLD 650.70

OIL and GOLD remain supported as the USD struggles. The USD is likely to continue struggling. Indeed, an acceleration of the trend is likely as EUR/USD strength bleeds into USD/JPY weakness.

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