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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Tuesday, December 12, 2006

Just Don't Mention the DOLLAR

EUR/USD 1.3241 Hi 1.3270 Low 1.3225
USD/JPY 116.91 Hi 117.05 Low 116.69
AUD/USD 0.7857 Hi 0.7878 Low 0.7842
EUR/JPY 154.82 Hi 155.07 Low 154.53

Funny how market views can change overnight. Although there are no real signs that the U.S. economy is about to turn the corner suddenly the market chatter is about if and when the FED will hike and not if and when the FED will ease. And Bernanke gets another shot at things today. Everyone expects him to blatter on about the upside risks for inflation. Inflationary pressures, which he PREVIOUSLY expected to see subside as the economy "cooled", are suddenly a BIG RISK. Bernanke's EUREKA moment seems to have occurred on November 28. Which is interesting. That would be right after Thanksgiving. Right after the USD started to slide. Not that anyone is mentioning the USD. That would be too scary. No-one wants a "disorderly" market. Translation: a crash. So let's go softly, softly on this one guys and hope things pan out.

Not even Trichet DARES mention the exchange rate. In fact at his recent Press Conference Trichet jumped through hoops trying NOT to mention the exchange rate. The EURO, oh that, next question please. And the Central Banks are certainly NOT talking about the massive currency intervention in support of the USD which happened on Friday. Following the release of so-so U.S. Non-Farm Payrolls and pretty bad December Consumer Sentiment numbers from the University of Michigan. No, everyone is being hush, hush about all that. The line being pushed is that the USD, after initially SELLING OFF, turned the corner Friday because the NFP numbers were great (they weren't) and because Paulson said (AGAIN) that "a strong dollar is in our nation's interest". He may as well have said: "being rich is in our nation's interest". Indeed it is but getting rich is slightly more complicated than that. Same goes for the USD. Having a strong USD may well be in the interests of the U.S.A. but ensuring that it remains so is just slightly more complicated than delivering a few well timed statements and some unpublicised Central Bank intervention.

At the FOMC pow-wow today a rate hike is unlikely, but not impossible. And Bernanke is unlikely to linger on any of the scary signs that "things" in the U.S. aren't so great. No talk of the Sub-Prime Lenders who are hitting the wall, no talk of declining credit quality in the U.S., no talk about the Residential Real Estate Market implosion, or the worrying rise in Inventories, or reported weak Retail Sales this holiday season. And though even Alan Greenspan is suggesting that the USD decline has further to go, Bernanke is NOT expected to mention the exchange rate. No. What he will talk about is inflation, the upside risks to price pressures and the need to, maybe, hike rates some time in the near future. As a Debtor Nation the U.S. now has to set its Interest Rates to suit Foreign Investors. Which is normal, it's just news in the U.S. and it's news to the Mr. Joe Average. So expect some fancy footwork as the Powers-That-Be try and explain this unpleasant turn of events to the man in the street. Slowing growth, steady or rising short term rates: welcome back STAGFLATION.

This is not a good environment for Stocks. Though no-one seems to have noticed. Yet.

Meanwhile back at the White House crisis talks continue. The crisis, of course, is IRAQ. The great big new idea is: Iraq's neighbours need to take over while the U.S. gets the hell out. This idea seems to have been generated without much in the way of consultation with Iraq's neighbours. But then strategic planning never was a George W. forté, so same old, same old. The upshot is that while Iraq's neighbours do have an interest in seeing the carnage and disruption stop they are unlikely to get involved without an incentive. And the incentive on the table is: Israel. Yes, after Cheney was summoned to Saudi Arabia at Thanksgiving Israel suddenly announced a withdrawal from Gaza. Now, this could have been just a bizarre coincidence but in the murky area of International Relations there are rarely any coincidences.

As all this unfolds no-one is concentrating on economic policy. Well, except for Henry Paulson who is off to China to try and convince them that what China really needs is a WEAKER USD, whoops make that a STRONGER Chinese Yuan. The fundamentals remain USD negative. The question remains: how short is the market? The answer is: very short. And the Central Banks are still lurking. That's about the most positive thing that can be said for the USD right now. We may see slightly more USD "strength", er USD short covering, in the very near term. As always, longer term players should SELL the USD rally.

OIL 61.34
GOLD 634.10

And while every economic analyst out there is quietly REVISING DOWN their forecast for U.S. economic growth, the Commodity Markets are seeing some SELLING again. More selling pressure is likely. Over at Morgan Stanley Stephen Roach is sticking to his forecasts and they are, of course, all a bit grim. The upshot though is that DEMAND for commodities is likely to "moderate" over the next 12 months or so. Bad news for AUD bulls and bad news for OIL bulls.

Over the longer term USD weakness should provide a real base for GOLD to outperform other assets. The short term is slightly more tricky.

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