Notes From Underground: For What It’s Worth

Everybody has opinions on the recent election outcome but as usual most of the opinions are from the echo chamber and not factual in any way. This blog is dedicated to seeking profitable investment and trading opportunities as I sort through the noise of the financial media. As with Brexit, the punditry found itself trapped in its own rhetoric and every prediction but the weakness of the pound proved to be WRONG, at least in the short to medium-term. British Gilts (10-year notes) rallied substantially in the post-Brexit confusion and most importantly the Footise stock index rallied 15% off its election night bottom. The POUND did weaken substantially against the U.S. dollar and the euro currency but I have argued for a few years that the British current account made the relative strength of the POUND to its key trading partners unsustainable.

The POUND has recently stabilized as the EUR/GBP trade has been unwound and the U.S. dollar has rallied 6 percent against the EURO and YEN since the night of Trump’s election. For you traders the 0.8317 area of the EUR/GBP cross should provide support as it was the high made June 24 after the Brexit vote. The best thing the Brits have going for it is the depreciation of the pound as they strive to sustain British economic growth in the face of diminished foreign direct investment.

Of course we are all cognizant of the failure of the experts to predict the Trump electoral victory let alone how badly their investment recommendations performed. Many analysts and hedge fund gurus predicted a fall in bond yields, a decline in equity prices and the U.S. dollar and, of course, a dramatic rise in gold and silver prices. Two weeks after the market paroxysms of November 8-9, bond yields are significantly higher as futures on the 10- and 30-year Treasuries have fallen precipitously, the dollar has rallied against most world currencies, GOLD and silver have lost 10-15 percent of their election night rally. Most significantly, the SPOOS and Russell equity indexes have made ALL-TIME HIGHS.

In a bow to consensus, fed fund futures are indicating a mere 100 PERCENT CHANCE of a rate hike at the December meeting, so a HIKE OUGHT not disturb the present market configuration too much. The dollar has certainly been a headwind for some FOMC voters (Lael Brainard) but if the consensus is correct she would be a lone dissenter. Stanley Fischer was out exercising his vocal chords today. He noted that ultra-low interest rates were resulting in the overvaluation of certain assets, like corporate and sovereign bonds within the global financial portfolios. This is not new of course, as Harvard Professor Jeremy Stein warned of this outcome prior to his resignation in May 2014. The FOMC is admitting to some of the criticisms that have been leveled at them over the previous years but is the acknowledgement coming too late?

Rick Santelli has been noting the mispricing of assets because of FED policy for the last five years (as have I), but with the strength of the dollar and the political uncertainties in Europe and elsewhere, will the FED create instability if they guide rates even higher for 2017? If the Fed signals a one and done, then will it be full speed ahead for global equities? If rates continue higher than the equity market rally cannot continue much longer because the huge amount of debt on corporate balance sheets will be financed at ever-increasing interest rates. In 1981 when Ronald Reagan entered the White House, the U.S. had a $3.2 Trillion GDP and total debt (public+private) of roughly $5.3 trillion. Today, the U.S. has a $17 Trillion GDP and a total debt load of $62.5 trillion (source:FRED).

The rising yields on BONDS, public and private, stand to be a drag on equity markets as the Trump rally begins to be assessed in terms of fundamentals. Yes, if Yellen holds rates steady and allows inflation to run hotter for longer then equity markets will have to recalibrate as the debt load will be diminished through the magic of inflation. Remember that the Rogoff stance is overleveraged economies can either restructure the loans or utilize inflation to reduce the pain of a debt overhang. But, if inflation runs hotter, then the dollar rally will be questioned as will the break in the precious metals. If central banks are seen to fail in combating any upward price pressures then GOLD versus fiat currencies will become my investment of choice. Let the celebration of potential Trump positive outcomes continue but I will be vigilant as to how the FOMC is reacting:

There’s battle lines being drawn
Nobody’s right if everybody’s wrong
Young people speaking their minds
Getting so much resistance from behind

For What It Is Worth

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11 Responses to “Notes From Underground: For What It’s Worth”

  1. Gregg Slutsky Says:

    Give me a call if you’re coming to AZ for the holiday ! 847 421-5484! If not enjoy the long weekend ! Gregg S

  2. Asherz Says:

    Nobody’s right if everyone is wrong is of course an impossibility in markets. There always is the other side of the trade. And as in elections.
    A federal funds rate increase next month is likely as it was last year. It is the December annual credibility maneuver. We will probably not get another increase for quite a while because of the top heavy debt/GDP ratio. But the bond vigilantes who have been tamed by the Central Bank sheriffs allowing Greek, Italian et al mispricing, may still have their day. Especially if the new administration carries out its threats against Yellin and Co. (why Fischer has been a favorite target when he just adopted the party line ) will allow proper pricing to resume with all the consequences, as we leave Wonderland and return to markets free of interventions.

    • Yra G Harris Says:

      Asherz—well noted and as a very good friend of mine,Mr.Leo, noted in a link he sent me on Sunday,the new vigilante’s are currency vigilantes for it is easier to do the work of a central bank wanting its currency to depreciate then it is to fight a bank trying to cap its sovereign bond yields in a desperate act of financial repression.For a successful act of curreny vigilantism see the YEN depreciation from October 2012 until 2014,but history is replete with central banks allowing the markets to push their currency lower.

  3. Asherz Says:

    The Trump Administration actions regarding the Yellin Fed may have major implications for the markets in 2017 H1.
    See this NY Sun editorial. I disagree on the Cruz possibility, not because he wouldn’t be a good choice but because of the vitriol between the two protagonists in the primary.

    • yra Says:

      asherz–you know i keep politics out of the blog and I understand the Cruz op-ed piece but I can name many more qualified people to chair the Fed—beginning with Sheila Bair and Tom Hoenig—the list will go on but not the venomous Cruz into what has become the second most powerful position in the world

      • Asherz Says:

        My point was not political but just to point out that a new Fed chairperson may have enormous effects on the global markets. And only about two months away for the subject to come up.
        I agree with either of your two suggestions.

  4. Frank C. Says:

    Great spot on Santellit exchange.

    Happy Thanksgiving!

  5. ShockedToFindGambling Says:

    Yra- Just watched you on Santelli.

    The point you didn’t mention is the capital losses on long term bonds, if rates continue to go higher.

    I believe long bonds have taken a hit of at least 15% of principal, from the highs. If we go into a real bond bear, capital losses will be massive.

    I believe the debt market is 3 to 4 times the size of the equity market in the USA,

    IMO, capital losses on bonds will far outweigh any benefits of inflating away the debt.

    • Yra G Harris Says:

      Shocked –that is a good point and the Santelli hit was cut a little short because what could two guys west of the Hudson possibly know—-but thank s for your usual solid input

      • ShockedToFindGambling Says:

        Yra- As you know, low coupon bonds have a much higher price volatility than high coupon, so the capital losses on bonds issued the last few years will be even more extreme, if we go into a major bear.

        “West of the Hudson” is the perfect name for your segments on Santelli.

  6. ShockedToFindGambling Says:

    Forgot to mention the capital losses on bonds will be very deflationary.

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