Notes From Underground: Pushing On A String “Yields” a YO-YO Market

The great economist and bon vivant, Joseph Schumpeter, described the failure of low interest rates to stimulate the animal spirits of businessmen as “PUSHING ON A STRING.” In paraphrasing this concept, high interest rates can stop an entrepreneur from borrowing but ultra-low rates cannot stimulate investment if there is no expected return higher than the cost of capital. Some pundits continue to insist that banks aren’t lending while many of the banks insist that there is no business or consumer demand. It is driving the Bernanke FED crazy that with interest rates at zero, capital investment is just not reaching levels high enough to add jobs.

The only outcome is global investors seeking some type of higher return through investment in commodities or some cases equities, hence the wicked up/down action in global equity markets. The investment environment has traders and investors scouring the global arena for short-term trades with high-return potential to offset the ridiculous zero rates set by the CENTRAL BANKS, resulting in the daily whiplash effects. The term DOUBLE DIP is on the radar screen and causes investors to flee stocks, but outside of the NBER does anyone really believe that the economy came out of the initial recession? A year after the Jackson Hole I speech by Ben Bernanke, the market and economy are back to very similar levels. Yes, equities are somewhat higher but relative to BONDS, almost unchanged.

The markets that have moved the most are the DOLLAR, which has fallen substantially, and many commodities are significantly higher in price. The inability of the economy to gain traction in a zero interest rate environment is causing the FED and its MODEL BUILDERS great concern. The spillover of all that dormant liquidity is creating great swings in equities and commodities. Thus, we have a yo-yo on a string.

A quick hitter on the EURO: The great enigma of the failure of the EURO FX to drop during this time of severe credit stress in the PIIGS has raised many theories as to why. George Soros and others have opined that it is Chinese demand for an alternative to the DOLLAR that has maintained a BID to the EURO. This conjecture may be correct but I want to throw an alternative view out for thought. It seems that the EUROPEAN BANKS have parked up to $950 Billion in their U.S. subsidiaries during the last two years as the safety net of the FDIC and FED have provided comfort outside of the EU and its lack of an ostensible safety net.

Now, when the European banks need to shore up their domestic balance sheets they sell dollars and bring EUROS home. This can’t be proved as of yet but it seems that anytime there is pressure in the EURIBOR market, the EURO gets a bid. The EURO has been strong even as the news of U.S. banks and investors rushing out of the EUROPEAN MONEY MARKET FUNDS which OUGHT TO BE A NEGATIVE for the European currency. Many have struggled with the idea of a strong EURO during these tumultuous times so it is necessary to contemplate the repatriation angle as a possible argument. The U.S. DOLLAR was a haven entity but the flows have certainly reversed.

The riddle may best be solved by monitoring the technical levels in the EURO CROSS RATES, as overall EURO strength may represent where EUROPEAN banks have been busy placing deposits. Just putting something else on the table to think about during these very chaotic times.

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12 Responses to “Notes From Underground: Pushing On A String “Yields” a YO-YO Market”

  1. rohrintl Says:

    Hi Yra-
    Yeah, bubbles used to form once every other generation, as the folks who saw the last one were no longer around to warn of the potential to get fleeced. Now it’s every few years, and the mantra on the back of purposeful QE seems to be a variation on the byline of ‘Dr. Strangelove’: “How I learned to stop worrying and love the Bubble.”

    Excellent hypothesis on the euro… it’s also even holding key support against the yen… even more so than sterling as well as the buck. Wonder what that’s all about?

  2. jimmy_two_times Says:


    thanks on the insight on the Euro. This was beginning to really frustrate me.

    further on that thought, given the vast size of FX market wouldnt speculators win over nay bank interventions?

    just thinkin back to breaking the bank of england.

  3. yra Says:

    Jimmy two times :The bank Of England effort was easy to do because the BOE was trying to maintain a fixed band–the EURO is a moving target with no band and thus there is no need to protect the currency by raising rates to suffocating levels in order to prevent the breaking of the band–many will make a faulty analysis don’t get caught in that trap –these are totally different circumstances

  4. Steve Pearson Says:

    I am sorry but you seem to completely misunderstand the nature and operation of international bank balance sheets. It is true that European banks have built significant funding via their US based subs over recent years but this has been to replace ABS issuance etc. The cash deposits on the balance sheet – a liability – are there to fund USD assets in the form of USD based lending and legacy USD denominated securities. It is by no means a long USD position on the balance sheet that can be sold for EUR. As a general rule international banks avoid currency mismatches on their balance sheets due to the fact that the revaluation of these positions would directly impact their PNL, If there were such a huge net long USD position we would have seen large revaluation effects in the quarterly results of European banks – which we have not. The activity of reserve managers and a uber dovish Fed are more plausible explanations for the recent inability of the USD to capitalize on significant risk aversion

  5. yra Says:

    Steve–good points and I was raising the issue and the fact the dollar didn’t rally with the huge rise in deposites is certainly a chink in the theory.But I will add that the dollar deposites have bben built up over a 2 year plus period and remember that the EURO was down in the 118–to 125 area whne Bernanke said that the U.S. Dollar was strengthening on the basis of a safe haven basis.You do not answer the fact that European banks have used the safety net of unlimited bank guarantees as a repository for their funds.again I wrote it in a totally theoretical basis and I thank you for helping elevate the discussion

  6. yra Says:

    Steve also as a general rule banks and investment banks do not leverage their balance sheets to 25 to 40 times but that is a general rule.Turbulent times in a low interest rate environment such as the real estate boom of 5 years ago forces creditors to take on all types of Germany the Landesbanks have done all types of violating general rules to gain some edge that was lost once the rules of EU banking was changed—-for the outcome of general rules see N.N. Taleb

  7. Steve Pearson Says:

    Sorry but you miss the point on the USD deposits. The deposits belong to customers not the banks. European banks have NOT “used the safety net of unlimeted bank guarantees as a repository for their funds” – IT IS NOT THEIR MONEY IT IS CUSTOMER DEPOSITS!!. They have simply increased their USD deposit based funding (they dont have to pay the FDIC insurance fee on depos so have a stronger bid for the cash than domestics). Increased depo funding replaces collapse in issuance etc. As for the general rule on your second reply thats rather irrelevant – it is an observable fact that there are not huge FX positions on the balance sheets of European banks.

  8. yra Says:

    and the observable fact is where

  9. yra Says:

    as to the point about customer deposites –banks are intermediaries that take deopites from customers and either lend them or place them in other interest bearing forms in order to get a higher return then the costs of wholesale borrowing—so I am not sure what you are saying when you say it is their customers deposits

  10. Kevin Says:

    Remember the Fitch report (in June I think) showing that US money market funds had half their assets invested in USD paper issued by European banks. I agree that this is to fund specific USD assets. What I would like to highlight is the probable duration mis-match between the funding and the assets. Do you really want your “safe haven” money market fund lending cash to Soc Gen and BNP to pick up 20bp’s of extra carry? When (and I think it is when not if) that funding dries up, the Eurobanks will need to find more USD fast – either from the Fed or indirectly from Eurozone depositors or the ECB. In the latter case, surely they would need to BUY USD sell EUR??

    Even if they manage to sell their USD assets (which could result in big losses rather than the current extend/pretend/hold to maturity game), the proceeds of that will need to be directed at repaying the USD funding, so no currency effect.

    Hard to see where the sell USD comes from?

  11. yra Says:

    Kevin–excellent point.That is very possible for the DOLAAR funding needs as we see with the draws from the SWAP lines—but again how about the funding needs of the European banks and their domestic needs???

  12. Steve Pearson Says:

    Just to come back re the observable fact: the revaluation effects of a large FX position would be reported in the quarterly results. Pick any european bank and check their report.

    the point on customer deposits is this: you take a customer deposit this USD cash isnt really yours to sell for EUR. Your original premise was that the banks could have been selling these USD balances for EUR to ease domestic funding issues. If they did this they would be outright short USD (they have a usd liability to customers). What would actually happen is they would swap USD into EUR (NO FX impact).

    Kevin’s point conveys what actually happened in 2008. Many european and uk banks were forced into selling USD assets at a loss. The purchase cost of these assets was match-funded on the balance sheet with USD liabilities. The USD realised from asset sales were insufficient to meet USD liabilities in full. The losses were made good from equity. Equity is in domestic currency, forcing these banks to purchase USD in the FX spot market.

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