Key Market Drivers For The Prior and Coming Week:
Over the past week, the term ‘the race to the bottom’ has referred to the competitive currency devaluation by various states as means of boosting exports and gaining growth at the expense of others.
Regular readers know I’ve believed that the EU’s sovereign debt and banking crisis outweighed any other threat to global financial markets, and thus made the USD a better bet over the longer term than the Euro. That’s no longer clear.
Friday’s US jobs report highlighted how budget struggles on the state level represent another systemic risk from the US. The past week also saw a new potential systemic risk from the US – evidence of widespread systematic fraud in foreclosure processing that presents yet another threat to the recovery of the US banking and real estate sectors.
PRIOR WEEK
New US Stimulus Expectations, Other Anti-USD Forces Are THE Global Market Driver For The Second Straight Week.
Expectations for new US stimulus were again the key global market driver for the second straight week.
Forces feeding this sentiment included:
- NY Fed President William Dudley’s call for further policy stimulus saying that the unemployment and inflation rates in the US are “unacceptable”. The message is that the economic data is already bad enough to justify new stimulus.
- Mixed US data climaxing in a poor monthly US jobs report. Jobs, spending, and inflation are the key metrics that the Fed is watching, so the jobs report was especially significant for raising expectations for new quantitative easing.
Ramifications included:
- Risk Assets Higher On Rising Risk Appetite:This rising risk appetite created its own pressure on the safe-haven USD, as did Chinese comments supporting the chief USD alternative, the EUR.
- The combined effects of new stimulus expectations and rising risk appetite meant USD hedges like commodities and currencies moved higher.
- BoJ New Stimulus Fails To Lower The Yen Despite Rising Risk Appetite
Friday’s Bad US Jobs News Is Good News
We warned this could happen last week:
- Markets believe bad jobs data raises chances of new US stimulus, which it believes will in turn push stocks higher, thus bad news becomes good news
- Much of the decline came from state and local governments, highlighting their growing funding problems, which represent another potential systemic risk to the US and thus global financial system
- Financial Media Focuses On ’Currency War’
Like the EU crisis, this was building long before it became a focus of the financial media. The clear catalyst was the FOMC’s statement over 2 weeks ago. New US stimulus meant that now the central banks of the 3 largest economies were actively working to devalue their currencies as a means of growing at the expense of their neighbors.
NOTEWORTHY BUT NOT MARKET MOVING
Here are some key events that didn’t move markets but were still noteworthy or could suddenly become market moving soon.
- US Jobs Reports Highlight US State Fiscal Crisis
While private sector hiring was up, mostly from health care, that gain was more than countered by job losses from state and local governments NOT related to temporary census jobs terminating. Many have been warning that the US has another crisis brewing from widespread insolvency risks on the state level. This past week high-profile analyst Meredith Whitney spoke on CNBC here about how insolvency on the state level threatens systemic risk from the US.
- US Earnings: Big Names Mostly Meet or Beat Expectations
COMING WEEK
- US Retail Sales, CPI Data
These are the other key metrics the Fed watches. Neither is expected to be strong enough to alter expectations that more stimulus is on the way. However expectations are so strongly tilted towards stimulus that they could be easily disappointed by either the timing or size of coming QE.
- US Earnings Season Picks Up Pace
Earnings reporting season starts to pick up next week, including marquee names such as Intel (INTC), JPMorgan Chase (JPM), Google (GOOG), and General Electric (GE).
- Continued Central Bank Currency Spin
- The Fed
- The Bank of England
- The ECB: EUR Longs Beware
The point here is that whenever it chooses, all the ECB need do to send the EUR plunging is to be a bit less active in a bond auction of one of the peripheral economies like Ireland, and allow it to look like a ‘near failure.’ EUR longs may well be riskier now than many believe.
WILDCARDS
We don’t know if these will move markets next week, but they are likely to do so in the not so distant future. Of most immediate concern:
- EU Sovereign Debt and Banking Crisis
Remember, nothing has changed in the EU since the crisis broke this past spring. EU is engaged in its own version of extend and pretend. There are new troubles for overburdened peripheral economies in addition to Ireland’s bank bailouts. This past week Hungary was hit with toxic floods, and Greece with an earthquake.
- Coming Phase II of US Banking Crisis
Many good articles coming out on this topic, see here for a good one by Jeff Nielson, read it and be afraid. I didn’t think anything could top the potential catastrophe of the EU crises. Wrong. US banks were already on life support as a new wave of mortgage resets and defaults of similar magnitude to that which caused the phase back in the fall of 2008. Markets have yet to digest this story. Now we are learning the banks may never be able to collect anything on a huge chunk of these mortgages for lack of proper titles. Just as bad, widespread fraud in the US mortgage industry threatens to cast doubt on the title validity of huge swaths of the US real estate market. That means at minimum a further decline or in housing prices, if not outright collapse.
- Realization That Stimulus Benefits Have Already Been Priced Into Stocks
Employment and home prices are stagnant or deteriorating in the US and most of the developed world. Consumer spending will follow, and thus growth. Toss in the next bouts of US or EU banking crises, and we have appear to have a serious market pullback coming. Of course, the markets have had an impressive ability to ignore flashing warnings, as have the mainstream financial media.
CONCLUSIONS
We have not one but 2 kinds of ‘race to the bottom.’
One involves the already known competitive currency devaluation involving the US, China, (via its USD peg), Japan, and smaller emerging market economies.
With the breaking story of massive US bank foreclosure fraud, we appear to be forming another race to the bottom involving the US vs. the EU banking systems as both appear on course for another bout of crisis.
Ramifications
Forex
Potential for EUR upside remains vs. the USD, GBP, and JPY while the ECB remains more hawkish relative to the central banks of the US, UK, and Japan, and until markets can get clarity on the size and timing of additional potential QE steps from these central banks. Moreover, the US appears ready to begin the next phase of its own banking crisis that could match that of the EU. Timing when this realization hits critical mass, however, remains difficult. Anything looks better than the USD- which of course suggests a USD bounce.
Commodities
Commodities
USD weakness suggests continued ongoing strength.
Stocks
Virtually every fundamental metric is stagnant or sinking, yet markets keep rising on hopes for a rally that everyone knows is coming via artificial and temporary stimulus. We have an uptrend, but one that’s hard to trust.
DISCLOSURE & DISCLAIMER: NO POSITIONS, THE ABOVE IS FOR INFORMATIONAL PURPOSES ONLY AND NOT TO BE CONSTRUED AS SPECIFIC TRADING ADVICE. RESPONSIBILITY FOR TRADE DECISIONS IS SOLELY WITH THE READER
