You don’t have to be a weather man to know which way the wind is blowing, or so says Bob Dylan. As long as all things are emanating out of China it may be the time to dust off the sayings of Mao for as the talking heads are reminding us daily: “The East Wind Is Prevailing Over the West” in all things financial. THE PROBLEM FOR ME IS I DON’T ACCEPT THAT VIEW AND AM IN THE CAMP OF FORMER DALLAS FED PRESIDENT RICHARD FISHER that all roads lead to the FED and certainly the European Union for providing the tinder for a financial prairie fire. There has been so much volatility during the first six trading days of the year it is difficult to get a handle on what is algo-driven non-fundamental and what may be the commencement of a change in previous momentum trades. Today I will go through a list of POTENTIAL SPARKS TO IGNITE THE FLAMES OF A FINANCIAL FIRE so that we can be aware of what constitutes a genuine change in momentum:
1. If the U.S. 2/10 curve begins to flatten–currently holding around 117 area–the bigger test will be in the 80 BASIS POINT area to signify the initiation of the flames of deflation;
2. There’s a new break in the currency wars. On January 4, RIKSBANK of Sweden announced that it would intervene at any time to stem the appreciation of the Swedish kroner, especially against the EURO. Over the weekend Swiss National Bank (SNB) President Thomas Jordan warned about the Swiss franc still remaining overvalued against the EURO and other currencies. On Friday, a Dow Jones wire article warned that the SNB lost $23.5 billion trying to keep the Swiss weak as it purchased various currencies that dropped in value.
The SNB typically makes a profit that it turns over to the Swiss Treasury, but this lean year will not sit well with the cantonal governments. The SNB noted it will pay a dividend to the cantons out of its reserves (ah, the power of the printing press) but this will not ease the pressure by Swiss politicians who wish to curb SNB independence. There are sparks a plenty in the realm of global currencies and the Chinese yuan is a mere side-show. The dramatic fall in the some emerging market currencies have the ability to create a firestorm in global credit markets.
3. The dramatic fall in the price of OIL is significant but actually aids Europe, which has little production and benefits from a fall in the price of its energy imports. The larger problem of course if for the U.S. financial system, which has lent heavily to U.S. energy producers and is exposed via the bond markets. There is a complacency among some investors that the loan exposure of banks is minimal compared to the sub-prime crisis but as we know a single spark can ignite a large fire. The more important question: What are the Saudis up to? The last time the House of Saud drove the price of OIL dramatically lower it was 1986 and Vice President George H.W. Bush went to Saudi Arabia and convinced the Saudis to cut production because it was a disaster for U.S. producers in Texas. This time the Saudis seem to be sending a message but it’s not clear what and to whom. Given its anger at the Obama White House over its dealings with IRAN, the Saudi message my cut deeper then all previous political machinations.
There was an extraordinary meeting of the Arab states in Cairo this past weekend. The Saudis called the meeting and it seemed to signify that the Arabs would unite and the Sunni Turks were left out. By leaving out the Turks, the end result is that Russia becomes an ally of the Arabs and the price of OIL is close to its lows. Russia has proven to be a more trusted friend, as proven by Putin’s intervention to save President Assad. The U.S. 70-year support of the autocratic House of Saud is certainly being called into question by the Obama policies of the last four years. Oil and politics make for strange bedfellows and it seems that the mattress is made of straw.
4. The most dangerous spark of all is something I have warned about in this blog and on television with Rick Santelli and that is the rise of anti-euro fringe parties in Europe. More importantly, these parties are also opposed to the insular nature of the governing elites. Chancellor Merkel is under great pressure, even as she has been touted as the greatest Chancellor since Konrad Adenauer. It is amazing how quickly the winds change. Frau Merkel cancelled her trip to Davos because to leave Germany to cavort with the epitome of crony capitalists would not play well with the Burhgers of Bavaria.
The recent scandal of the rapes in Cologne over New Year’s Eve have lit the fires of the AFD and its anti-refugee platform. But the real spark to German political pressure on Merkel is the RAPE of German savers by the ECB-imposed negative interest rates that are condoned by the German Chancellor (yet vehemently opposed by Bundesbank President Jens Weidmann). It is this potential conflagration that can cause the greatest problem for the EU and global financial markets. The ECB’s swollen balance sheet has caused the sovereign debt of Spain, Portugal, Italy, France, Greece and others to be absurdly priced risk. The world is a tinder box.
***If the central banks lose control, meaning that investors grow fearful of their ability to control outcomes, GOLD will become a haven (also factor in concerns about currency wars). The GOLD has been in a medium-term bear market but in the long-term it’s still corrective. The GOLD held the important $1048 price level (of the IMF 200-ton sale to the Bank of India in November 2009). Currently, the GOLD/YUAN spread has rallied above its 200-day moving average but the other gold currency crosses have not reflected any such strength. The GOLD/EURO cross remains rangebound. The ultimate haven spread, GOLD/SWISS has held at the 200-day m.a. and failed to continue last week’s rally of the fearful. (The Gold/Swiss 200-day is 1097.33 on the CQG daily continuation.) This is an important signal because the world’s speculators are short gold. Remember, last year GOLD outperformed BERKSHIRE. In the realm of GLOBAL MACRO all values are relative. Gold reflects the lack of global leadership and no GREAT HELMSMAN steering the ship.
Tags: Angela Merkel, ECB, Euro, Germany, Gold, gold/euro, gold/Swiss, gold/yuan, oil, riksbank, SNB, Swiss Franc, Thomas Jordan, U.S. 2/10 curve
January 11, 2016 at 7:39 pm |
Hi Yra,
I agree that “all roads lead to the Fed” ; however, I do not agree that the US economy is impervious to “the East Wind…”
For your interest, here is my most recent blog post. It is about China. Conclusion: As investors, we should be concerned because China is one of the biggest economies and the world’s leading trader. Therefore, if it slows down then so will global growth:
https://sobata416.wordpress.com/2016/01/11/big-bad-china/
Kind regards,
Shane Obata (@sobata416)
January 12, 2016 at 7:08 am |
Shane –very good post.I am not underestimating the impact of China .Their influence is greater in a world of slowing growth,unlike Japan ,which was able to muddle through because of the wave of global growth during much of the Japanese downturn.The Chinese slowdown comes at a very difficult time which elevates the Chinese impact.Also,will be taping a segment with Gordon Long on Friday
January 15, 2016 at 10:48 am
Thank you for the compliment!
I agree with your assessment.
Tell Gordon I said hi.
January 11, 2016 at 7:46 pm |
Yra- Great post.
1) I think you are looking for a flattening yield to signal a crisis. My experience is that the yield typically steepens in a crisis.
2) As someone who is long Gold (mostly miners), the lack of a rally here has been very disappointing. It seems to me that Crude is holding down Gold (I believe the Gold/Crude ratio is at record highs).
3) I would expect the yield curve to steepen sharply, around the same time Gold takes off on the upside (fear of holding long term bonds on deflation or inflation and/or credit fears).
4) I think debt is the key…..current levels of debt are not sustainable.
January 12, 2016 at 7:01 am |
Shocked —i am not disagreeing with you.It will steepen as the central banks invoke some new policy in response to a flattening curve at the zero lower bound–that has been my view for many years.Gold may be an inflation hedge but it is the threat of deflation that promotes the need to own GOLD.For the arrogant and insular academics residing at the Fed and ECB will certainly err in their response to maintain the perpetual wealth creating machine
January 12, 2016 at 11:05 am
Yra- Agree, Gold is a deflation hedge, but with Gold at a record high relative to Crude, breaks in Crude are holding down Gold, I think.
It’s strange, but Gold is historically very expensive relative to other commodities, BUT Gold stocks are very cheap historically relative to Gold.
The all in costs for companies in GDX are about $850 an ounce.
I’m confused.
January 11, 2016 at 8:48 pm |
outstanding trotsky outstanding! so what happens to all those lovely oil future derivative positions below $32? Is that a glowing ember in the straw mattress you mentioned 🙂 how about USO being 47.46% into feb /cl
January 12, 2016 at 7:02 am |
Limey–ran out of time but the most dangerous spark may be smoldering at 10 Downing Street.He is political royalty because only inbreeding could create an idiot of those proportions
January 12, 2016 at 4:53 pm
to be honest when I was in “the city” we treated ALL politicians with the respect they deserved. Normally what will happen is the message will be sent,via quango, as to what the “theoretical” effect will be on the Atlantic Peso. As a great man once said
“Bernard Woolley: It used to be said there were two kinds of chairs to go with two kinds of Minister: one sort folds up instantly; the other sort goes round and round in circles.”
January 12, 2016 at 2:59 am |
Yra, I don’t think the vol is due to the algos. Sure they’ll be adding to the mix but humans create vol not machines. Machines are followers they never have original thoughts.
Whatever the case this vol isn’t going away anytime soon.
January 12, 2016 at 6:57 am |
Alex–we will disagree on this.Yes machines are followers as they are programmed by humans seeking correlative trades.It is exactly their inability at this time to think,sorry Watson,that creates the volatility.Any person that has ever filled a large order on the floor will tell you the benefits of a human being that can think and take a breath —it is the correlations to all things that creates some volatility.I know a great technician who noted 30 years ago that the canadian dollar and pork bellies had a high correlation in their price movements–we named it the canadian bacon spread–but all correlations are not fundamentally sound and thus you have the piece last week from the Nevsky group ,a very successful trading fund that was closing because of the insanity of non-fundamental driven correlations—-the more programmers the more volatility —but I am not complaining and say let a “hundred algos bloom” —my effort is to find the profit potentials in the inane price movements.
January 12, 2016 at 11:28 am |
Yra, Totally agree with you on this. The automated sector brings risk to the “process” of price discovery. Is it *real* market liquidity as the locals and specialists provided? I believe not. If algos lose the modules of millisecond trends, chaos ensues. They’re a market among themselves, and as happened in the frozen Pork Belly market, will end up trading against themselves.
January 12, 2016 at 2:53 pm |
Thus beware for the attack of the algos while margin gales are blowing?
January 12, 2016 at 4:56 pm |
Trotsky
read the section on correlation in the book I bought for you, Speaking as an ex plumber I can tell you we had learnt our lesson some time back.
http://nerdsonwallstreet.com/stupid-data-miner-tricks-quantitative-finance-85/
January 12, 2016 at 7:58 am |
Isn’t this all about the advancement of technology and our abilities to cope?
It has allowed for computer- technological advances in every aspect of our lives. Algo trading that the old ways of trading doesn’t work anymore, cheaper oil, electric cars, far better health care, buy products via Amazon shipped to our doorsteps, inexpensive flights take you anywhere you wan to go, cell phones more powerful than computes of 5 to 10 years ago and even ISIS benefits recruiting via the internet.
Can go on on BUT aren’t these the best of times and worst of times?
January 12, 2016 at 10:44 am |
Yra, good points, I used to fill paper on a long since closed floor so I know where you’re coming from. Never got much thanks though when I really worked a client’s stop and saved him so good cash.
My overall point though is people worry too much about the algos.
Saw the news about Nevsky, looks like a bunch of river boaters to me.
January 12, 2016 at 2:09 pm |
Alex—I am not worried about algos–because my trade size is notionally in th elow millions i look to use the power of algos to attain better fundamental value.having grown up in Rogers Park I learned from the fabulous Cohen brothers about the fundamentals of judo –they trained Olympic silver medalist in Judo,Bob Berland,and new how to use an opponents energy to their advantage.
January 12, 2016 at 2:32 pm |
“The SNB typically makes a profit”
This seems inconsistent with the goal of pushing your currency down.
Would that be a variety of “Legal Tinder”?
January 12, 2016 at 2:43 pm |
Let’s Dance! Environmentalists jumping with joy at the prospect of slowing global growth, and a blood letting to bring any Myan empire to tears?
January 12, 2016 at 5:24 pm |
Why 80bps area for 2s10s yield curve to signal deflation?
January 13, 2016 at 3:56 am |
chems—this would in my mind begin to represent a danger and panic zone for the fed and wall street that deflation mind set beginning to take hold—-i will harden this up over time the look to longer term moving averages like the 200 month
January 13, 2016 at 10:49 am |
Chems—that 80-85 area on the 2/10 is very critical if you look at a monthly chart going back 10-12 years you will see why—the 117.25 is much more short term support
January 13, 2016 at 12:36 pm
Another question – yes the yield curve has flattened a bit but why haven’t long bond yields dropped more? I would think 10s and 30s would be setting new lows with what’s happened in oil, china, greece, etc.
January 13, 2016 at 2:08 pm |
Chems–lows in yield or futures prices
January 13, 2016 at 2:11 pm |
yields – why aren’t bond yields lower?
January 13, 2016 at 3:36 pm
just wrote a reply
January 13, 2016 at 3:36 pm |
Chems–could be because of large selling by the Chinese as they raise dollar liquidity for market intervention—just an opinion.And other central banks have also been lightening up on treasury holdings and possibly sovereign wealth funds
January 13, 2016 at 3:39 pm |
thank you sir
February 2, 2016 at 8:10 pm |
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