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To: Earlie who wrote (252359)	7/25/2003 10:00:38 PM
From: orkrious	Read Replies (1) \| Respond to of 436258

earlie, before you leave, Noland has a great piece tonight. the end of it: prudentbear.com Noting that agency spreads have widened notably of late, we recall how telecom debt spreads began to widen back in mid-1999 (and a few marginal companies began to quietly falter). And while there was little on the surface to cause great concern back then – after all, the Bubble was raging out of control and manic behavior would be sustained for several more quarters – an important inflection point in market dynamics had passed. Borrowing costs began to rise for the marginal companies, while Credit Availability began to tighten on the fringes. The huge speculator community, having inundated the sector with liquidity, was finding it more difficult to achieve expected heady gains. Some began to suffer losses. Importantly, speculative flows began to slow, setting in train the failure of the next marginal company. Credit availability became more restrictive and speculative losses began to mount. Eventually, a full-scale retreat of speculative finance from the sector ushered in spectacular collapse. There was one more facet to the technology boom worth contemplating. Many sophisticated players recognized clearly that the tech sector was a major speculative Bubble. They were, nonetheless, determined to play it for all it was worth - that’s what they do for “a living.” Yet they were fully expecting to front-run the crowd to the exit when things began to unravel (the greatest gains, after all, are achieved during the final speculative blow-off!). Many were run over, overstaying the game and miscalculating how quickly greed can be transformed to fear (and illiquidity). The point being that I believe many of the sophisticated global players keenly appreciate the nature of the U.S. agency/mortgage finance/dollar Bubbles. They will play it for all its worth – especially with the confidence that Team Greenspan/Bernanke will stop at nothing to perpetuate the Bubble – but they will have one eye on the exit. This week saw agency debt prices weaken significantly, with spreads increasing to the widest level in four months. Over the past two weeks, 10-year U.S. Treasury yields have gone from 20 basis points less than 10-year German yields to almost 20 basis points higher. And this week the dollar rally abruptly reversed, with gold enjoying its strongest weekly gain in 17 months. There are, as well, calls at home and abroad to devalue the dollar against the Chinese currency. Why do we sense they are playing with fire? And while there is understandable complacency regarding the ramifications of a weak dollar for today’s liquid stock market, there are a few things to keep in mind. First, with market perceptions seemingly of the view that the dollar has experienced the worst of its self-off, any serious return of dollar weakness could catch players (speculators, derivative players, and foreign investors) unprepared. Second, weak private demand has necessitated foreign central banks to acquire enormous dollar holdings over the past several months. Is this sustainable and have foreign central bankers been shaken by the unexpected backup in rates? Third, we don’t see Inflationist Team Greenspan/Bernanke instilling much market confidence, especially to our foreign creditors. Their deflation and “unconventional measures” intimations play better when bond prices are rising. And finally, it is worth noting that dollar weakness over the past 18 months has run concurrently with a virtual melt-up in bond prices. Foreign holders of Treasuries and agency securities have enjoyed huge capital gains to off-set currency losses. There was also the (reliquefication-induced) collapse in spreads helping to mitigate dollar weakness. We operate today in an extraordinarily unsettled financial environment dominated by leveraged speculation and U.S. foreign liabilities of unprecedented amounts. It is our sense that the “leveraged speculating community” has been rattled by wild equity, currency, and bond market volatility. With this in mind, we should be prepared for heightened volatility. We have always believed that systemic stress would be most aggravated in an environment where the dollar weakened, bond prices declined, and spreads widened. Such a scenario exposes the speculators, derivative players, and our foreign creditors to the greatest risk of abrupt and significant losses (and resulting acute financial fragility). Such a scenario is, all of the sudden, not a low probability event. Dr. Bernanke may trumpet the death of core CPI inflation, but acute financial instability is alive and extraordinarily vibrant.