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Strategies & Market Trends : John Pitera's Market Laboratory -- Ignore unavailable to you. Want to Upgrade?

To: Augustus Gloop who wrote (8390)	11/7/2007 7:49:38 PM
From: Hawkmoon	Read Replies (2) \| Respond to of 33421

Augustus, Let's look at some of the alternatives to the "Sturm and Drang" we're hearing.... The housing problem is going to get resolved. It's going to involve write-downs over the coming year or more in the banking sector. And it's going to involve figuring out how to re-price the value of those mortgage backed CDO/SIVs (which, ludicrously, the market is currently valuing as worthless) and the banks to "take their lumps" for flawed risk assessement (much of it involving the collusion of the bond rating agencies). Those mortgages (and the real-estate that collateralizes them) have some intrinsic value. They are clearly not "worthless".. And someone who buys them up for deep discounts stands to make a ton of money in a few years. And, of course, it's going to involve the Fed decreasing the Feds Funds rate to match what the public market is willing to accept for 10 year bond rate returns. The 10 year bond is currently trading with a 4.33% yield, which is STILL LOWER than the Federal Funds rate. And generally speaking, I believe historical evidence would indicate just the opposite from previous experience regarding economic recession. Normally interest rates climb as demand for capital sucks it away from the bond market. This creates the impetus for the Fed to hike rates above the prevailing market rates for bonds in order to drain liquidity and tighten credit, the proverbial "taking the punch bowl away just as the party is getting started".. But with the FF being above the 10 year bond, it's clear the Fed took that punch bowl away a long time ago and the bar is now open again.. And as we all should know, the FF is the rate at which banks lend to one another OVERNIGHT (and you can't much more short-term than that). Yet, the public is bidding up the price of 10 year paper to the point that they are willing to accept less than the overnight FF rate. What that signifies is a lack of confidence, not irrational exuberance and the Fed will be forced to act in a manner in which to restore it. That means lower rates.. the public markets are demanding it. CLEARLY, the problem is that there is too much money running to the safety of US Government bonds, not away from them (as they would if they were in fear of economic growth sparking inflation. despite increasing US productivity and economic growth. And the Fed can't adopt a hawkish stance when US labor productivity (at 4.9%) is outpacing economic growth (3.9%) and the 10 year bond is trading below the FF rate. So the current "panic" is based upon Keynesian "animal spirits" in the mortgage backed securities market. All that capital that used to flow into these markets is now flowing into Government bonds. And contrary to popular belief, the supply of government debt (the public national debt) has not kept pace with public demand for that debt. So how is this resolved? IMO, when I see the 10 year bond trading back above the FF rate, then I can worry about whether the Fed is returning to a tightening stance that will reduce economic growth. And that will require some restoration of the mortgage securities markets (which compete directly with the 30 year Government bond), or a drastic increase in deficit government spending that increases the supply of T-bills to meet the demand for them, thereby forcing interest rates up by flooding the market with supply. And I agree with John... the dollar is due for a major rally soon. We're at the bottom of the short-term channel and now we have to watch for a bottoming confirmation and set up for either a reverse H&S, or island formation (this is a java chart, so I hope it loads and I use monthly data): fxstreet.com Or it that doesn't work.. use this one: futures.tradingcharts.com And despite all the hues and cries about people withdrawing assets from the US and selling the dollar and equities, what is REALLY NEEDED is for the rest of the world (ie: China) to stop soaking up everyone of our Government bonds (competing with "scared money", and force the 10 year bond to sell above the FF rates.. THAT would strenghten the dollar, IMO because it would indicate that the Chinese were diverging from their peg to the US dollar and acting to resolve the trade deficit on there end. And for the Europeans, who are discovering that a strong Euro is not all it's cracked up to be, would also be relieved. As always, these are just my observations (and I'm not a professional money manager).. But if I can see this, I can't figure why the street is having so much problem seeing it as well.. I also welcome other perspectives.. Hawk