THAT was interesting -- Steve Plant
31/2006
fxa.com
6:00 AM New York time. Can it be? Can it finally be happening? The long awaited US dollar asset sell off driven by the realization that US structural deficit issues can only be resolved through crisis. The flight of capital away from anything dollar denominated, the manufactured creation of hard asset inflation, simply by virtue of capital flowing out of financial assets and into those alternatives. We have had so many false starts. The economy has held in and done so well for so long, that it has convinced even stalwart skeptics that our deficit lifestyle is not a problem, and actually well within our means to afford. This is the question of the year, the cycle, and maybe the decade. It is the day that fiat money cautioners and gold bugs have been warning the majority about for years. They have waited patiently like Nostradamus as the pressures within the system built far beyond tolerances that sound financial planning would have thought possible. Dave Lewis had to have enjoyed yesterday. Because I realize the magnitude of the question, and because I think the whole beginning will be a process rather than a single event, I am reluctant to say it has begun. From a discipline standpoint, I am trying to keep my own emotions in check. I mean… what are the odds that we have actually just seen THE day that economic history will record as the start of the US structural balance market adjustment? Instead I say; regardless of whether yesterday was THE day or not, we have been given a taste of what those days will hold in store for the markets.
It all started innocently enough. Gilmore (I have to admit) has been poking around the issue for a couple of weeks, that the Administration would tolerate a lower dollar. Then yesterday we got an article in the NY Times to that effect. The issue, greatly exaggerated into something that would actually fill a few columns, talked about potential personnel shuffling at Treasury and what that meant toward a shift in the current strong dollar policy. While participants sold first and asked questions later, it became apparent to me that the move was taking on a life of its own. The fever reached a point where a denial by Treasury later in the day was simply an opportunity to sell a bounce in the greenback. The entire story is bullsh**… an excuse… a manufactured reason to put meat on a price move that was more position pressure driven by participants who finally came to the collective view that it was riskier to be in US assets than it was to be out. The dollar had been behaving poorly for several weeks prior to yesterday.
We had a big shift in market correlation too. Bonds and the dollar went from inverse correlation two weeks ago to an R squared of 1 yesterday. Two weeks ago it was all about the economy. The dollar would go down on a weak number and bonds would rally, vice-versa on a strong number. If they have begun to trade together, it means the economy is no longer the issue. With them trading together, it means the issue is shifting more toward credit quality and investment risk. I doubt highly there will be an investment policy shift within any of the Central Banks that are big holders of US paper. But the leading edge of capital flow… the hedge funds, have certainly started to force the trade. And that beginning will put pressure on the trillions of dollars of real money investment in US paper (and thus US dollars), which is not as quick to act as a hedge fund, but certainly more willing to than a Central Bank. CIO’s at hundreds of pension funds, mutual funds, trust funds and insurance companies across the globe, will hastily call meetings today to weigh a change in long-held investment policy. Their decisions will determine the direction of markets for months to come.
For myself… the trades are on. Now the issue becomes one of leverage. If the markets have really decided to trend, then I need to get these trades on in even larger size. I remain a seller on rallies in the dollar and any five-dollar dip in gold is to be bought. While bonds might be for sale too, I think the greater potential for price distance resides with the currencies. My margin money is better spent being short dollars. Bonds will have far more importance to me as a driver of mortgage rates. If they are starting to react badly on dollar weakness, then the Fed conundrum will soon be a distant memory. Two months from now Bernanke and company will be scrambling to figure out ways to keep long rates from RISING out of their control. Can you imagine what a weak dollar-driven run on the bond market would do to housing? Holy sh**! Imagine the domestic private sector credit issues THAT would ignite. This could get interesting.
Steve Plant
FXA |
