Marli

Is the Hated U.S. Dollar About to Rally?

Massive countertrend moves in spite of overwhelming fundamentals that point in the opposite direction are part and parcel of currency movements. This was one of the first lessons I ever learnt in trying to model currencies based on interest rate differentials, rate of change in the current account balance, debt-to-GDP ratios and other independent variables.

Short DXY, long everything else is not only a crowded trade (in which the greater the appearance that a trade is self-evidently risk free among all market participants, the more likely it is that a reversal will occur at some point) but it distorts the value of beta as a measure of non-systemic risk among portfolio managers because the illusory negative or statistically insignificant correlations are being funded by the same pool of liquidity overwhelmingly pegged to a single market strategy. It's only when the market collapses and asset price correlations approach 1 do participants realize that modern portfoflio theory breaks down during mass liquidation cycles. Many do not understand this, which is why if some traders will call the Ghostbusters and find religion if they ever see gold and the dollar march in lock step.

In short, Summers is right. A sudden reversal in the dollar is not only a significant possibility, but given the distribution of sentiment in the market, the time is ripe for 'the beast' to humble the permashorts. Will the dollar continue to decline on average over the next few years? A thousand times, yes! But there's a funny thing about averages.

They do not express variation.

Dollar's Decline Has Contributed to Market's Recent 'Rise'

Confirmed. Short DXY, long everything else has been the preferred trade of quants since March, hence the disturbingly linear (although inverse) correlation between the DXY and the SPX over the past few months.

The risk is that a sudden countertrend move up in the dollar could force traders to unwind the carry leading to a massive drop across an entire spectrum of asset classes, rendering beta coefficients meaningless as a measure of non-systemic risk. The immediate aftermath of the Lehman collapse resulted in a hegde-fund style 'bank run' on the markets as massive redemption requests and margin calls on downgraded collateral led to widespread liquidation. Stat arbs lost money because historical relationships broke down, but did not immediately self-correct, i.e. when crap hits the fan all bets are off.

Although most traders are aware of this, they cannot *not* participate. They can only hope that they will be on the right side of the market if a move up in the dollar comes. The problem with this mentality is that it doesn't factor in Game Theory prisoner-dilemma scenarios when everyone rushes to the exit simultaneously in a zero-sum panic. Given the strong behavioral elements at work in the capital markets, this is a legitimate concern.

7 Things Goldman Can Do with Its Money Instead of Fat Bonuses

"Goldman makes billions from HFT? Says who?"

It says so in their quarterly earnings statements. Pay attention.

On Oct 13 06:34 PM CFB wrote:

> Fortunately, I reached the end of this article and realized the author
> was being tongue-in-cheek. Because clearly Goldman Sachs is not in
> a position to do any of these things except #2.
>
> 1) Raising the dividend on 500 million shares from 1.40 to like 2.50
> would be a deminimus use of cash. But raising it to $10/share would
> never be allowed by regulators. A 'special dividend' is more possible,
> but with unknown new capital constraints on the horizon, no financial
> institution can dividend away its cash until the new 'rules of the
> game' are set.
>
> 2) Buying back stock is highly likely. Goldman has issued a lot of
> equity in the past twelve months. This year's bonus payout will be
> largely in stock (politics). That is tantamount to an additional
> $15B in equity issuance, give or take. Current investors will HATE
> the dilution. With a current market cap of $95B, employees will soon
> be 20%+ owners. Talk about skin in the game. If employees are forced
> to hold their shares, stock buybacks will cause that percentage of
> employee ownership to climb very high over the next few years. Won't
> have to worry much about a say-on-pay vote going against management....
>
>
> 3) Goldman has no retail presence, and does not need marketingto
> help attract clients. Dumping money down a hole with no hope of profit
> isn't exactly aligned with executives fiduciary duty to owners.<br/>
>
> 4) If Goldman was hedged with collateral and counterparty insurance
> vs AIG, they clearly were in no position to take a loss. Would the
> various counterparties have paid Goldman in full? Maybe yes maybe
> no. But speculating about that outcome and saying Goldman should
> pay money to the government based on what may have, could have happened
> is just wishful thinking. And an unjust reward for Goldman, a company
> that actually exercised sound risk management to protect itself when
> others did not.
>
> 5) Generous gifts to anybody violate fiduciary duty to shareholders.
>
>
> 6) Goldman 'makes billions' from HF trading and is a big proponent
> of it? Says who? Assertion without proof if you ask me. And why would
> Goldman fund a study of a market that is about to get shut down by
> the SEC?
>
> 7) Hire Pandit from Citigroup? Laughable. It would be undeniably
> fun to see one of the most complex financial institutions on earth
> (Citigroup) run by one of these yahoos off the street who bleat that
> 'they would run Citigroup for $100,000 or $1 million' or whatever.
> A new reality TV show, perhaps?

The Most Expensive US Market Of All Time

Question! if we reprice the S&P 500 or the Dow based on a trade-weighted basket of currencies, do the P/E ratios based on reported earnings still approach bubble levels?

The Declining Dollar: Is There a Government Solution?

US government is the problem. The Bretton Woods system afforded the US and the Federal Reserve a virtual monopoly on the world's reserve currency. In 1946 the US had more than 75% of the world's entire supply of gold, so at the time it was an excellent choice. Post 1971 and the closing of the gold window, foreign central banks, oil exporters and multinationals continued to support the dollar's position by recycling their earnings into US debt instruments. In other words, the US' biggest export of the past twenty or thirty years was DEBT. This is why the Soviet Union couldn't keep up in the arms race- they had to purchase US dollars for their armaments with a stagnant economy but couldn't tap the credit markets and load up on debt the way Reagan could.

As a result of this, economists at the Fed have come to the false conclusion that the demand curve for US government debt is almost perfectly inelastic as some God-given right, instead of seeing it as something that cannot be taken for granted as the growth engines of the world shift away from predominantly Anglo-Saxon countries in a several hundred year cycle that waxes and wanes with the millenia.

After the end of the Warring States period in ancient China, the concept of the Mandate of Heaven would dominate the political landscape for hundreds of years. The idea was perhaps the Han predecessor to the European 'divine right of kings' concept. Unlike the european kings, though, who argued that this right was automatically handed down via succession, the Chinese believed that rulers, should they abuse the stewardship of the Middle Kingdom, could have their Mandate revoked, making revolution inevitable. Court-appointed seers would try to warn emperors of their folly by reporting sightings of strange anomalies, mutations and bizarre weather patterns, (rivers flowing uphill, etc) in order the suggest their actions were disrupting the natural rhythms of the cosmos. This allowed them to voice their concerns regarding the country's direction in a roundabout way without criticizing the emperor's policies directly, which would have been suicidal.

For decades, the international financial system has granted stewardship of its reserve currency to the US.

It has abused that responsibility.

It will lose the Mandate of Heaven.

Brazil: Do Olympics Make It a Better Investment?

...and as far as the whole 'Olympics' thing is concerned, from a valuations perspective, it's a historical outlier with no clear impact on net debt free cash flows. Although hosting the Olympics would be a boon to certain businesses and would in all likelihood be accompanied by matching government investment (painting the favelas in bright colors, hiding the desperate poverty of the permanent underclass) it would be the equivalent of a one-time fiscal injection. Unless you can make the case that hosting the Olympics would result in a longer term increase in either foreign direct investment, local production or international exports, then in a sense the hosting of the Olympics is a 'lagging' confirmation of their rise to prominence thus far.

Brazil: Do Olympics Make It a Better Investment?

At what price? Would you call the Bovespa Index cheap at these levels?
Don't get me wrong. I'm long term bullish on the Brazilian economy, but as far as asset prices are concerned, finding the right entry point is almost as important as the selection of the security itself.


On Oct 04 03:28 AM Alan Young wrote:

> "For anyone not owning Brazil but thinking about getting in"-- never
> mind the reason; just do it. It's crazy to be an investor of any
> kind with no exposure to Brazil; it's one of the strongest-performing
> economies on the planet.

Ten Reasons for an Imminent Stock Market Crash

I understand how you feel. The problem with macroanalysis as a basis of analyzing the equity markets is that although you can establish that there is some significant deviation from fair value it is impossible to identify the phase-transition point at which the distortion in the market rapidly normalizes and asset prices regress to the mean without warning. There were economists sounding the alarm in the housing and securitization markets since 2005 who had to wait years to see their bearish prognostications fully vindicated.


On Sep 30 03:24 AM Alan Young wrote:

> I have been reading articles almost indistinguishable from this one
> since the second or third week of March. That hasn't been very useful,
> and it isn't useful now.

Ten Reasons for an Imminent Stock Market Crash

Hands down the best article I have read in a while. Imprimatur.

A Radical Solution for America's Insolvent Financial System

Mansoor's solution is carefully thought out, and well articulated. However, it completely fails to factor in the human element. The unintended result of this program would be crippling cprruption and widespread fraud.

Prepare Yourself for the Inflation Invasion

Duly noted.


On Aug 25 07:35 PM Dian L. Chu wrote:

> Just take a look at the stock and commodities markets, whose performance
> has diverged from and contradited to almost all economic indicators.
>
>
> Yes, investment banks are not lending, because they are pushing money
> into hard assets and quities with superior returns vs. lending to
> consumers and businesses. Noticed that $GS let its macro bulls
> out? www.bloomberg.com/apps...;sid=a0sLU2hOmYZ0
>
>
> Also, the QE is not limited to the U.S. Just like the current recession
> is the most globally synchorinized in history, so are the global
> central banks QE's. Imagine the amount of money pumped into the
> system globally when we finally come out of this recession. If
> that does not spell inflation, then I don't know what does.
> Thanks for your comment.

Prepare Yourself for the Inflation Invasion

I pose a question.

Capacity underutilization is at a historical high, the velocity of money has fallen off a cliff and the traditional money multiplier mechanism is temporarily impaired because of banks either parking their excess capital back with the Fed to earn 0.25%, using Fed money to bid in treasury auctions, or to patch the gaping holes in their balance sheets.

Banks are reluctant to lend and are holding on to the low-cost capital provided by the Fed to brace themselves for the impending wave of Alt-A, optionARM and prime real estate losses.

If the historical correlation between monetary profligacy and inflation has been compromised by the above, then how exactly will monetary-based inflation manifest itself within the next few years?

Why This Rally Will Continue

In the short term, it is difficult to argue against a possible continuation of the rally because the index futures have demonstrated an increased willingness to deviate away from the underlying economic conditions for extended periods of time. From the March lows until present, short sellers were being shaken out of the market ever since the first double-digit % increases began to raise eyebrows. As more short sellers got burned trying to play the indices, word spread- if you try to short the market because you expect the primary bear market trend to continue, the Fed's Exchange Stabilization fund a.k.a the Working Group on Capital Markets a.k.a the Plunge Protection Team would drop the hammer on you - especially if the indices look like the NYSE is about to close in negative territory on a day when several technicals indicate a strong sell signal. The 50 day ma flirted with the 200 day ma on more than one occasion (the infamous death cross) only to be cock-blocked by the NY Fed and their enablers Goldman et al.

I think the rally can continue- not because it should, but because I have lost all confidence in the ability of the equity markets to regress to the mean within a reasonable time period because of intervention, misleading statistics, distorted bank earnings and propaganda.

Will it continue indefinitely? No. We have not seen the bottom, not when 48% of mortgages will be underwater by 2011 at or around the same time that default rates on optionARM and commercial real estate peak. The prime and commercial real estate debacles are still in their early stages. It took a full year for the sub prime markets to from rumblings in the crust in Nov 2007 to full-blown earthquake in Q4 2008. This means we may not see the real carnage for a few months down the road.

FASB: Don't Throw Me in the Briar Patch

Marking to market may increase volatility, but with the additional bonus of transparency. A balance sheet is supposed to be a snaposhot of company's position at a moment in time - as well as overall market conditions for that particular industry. Excessive leeway in pricing these assets is the equivalent of reporting this year's earnings statements in 'constant currency' terms in order to mask the effects of adverse foreign exchange movements.

In the name of smoothening out the time series, we now have less reliable information upon which to base fair-value calculations. The FASB relaxed 157 in the midst of severe pressure and what seemed to be an extremely fragile environment, but they knew deep down that in so doing they have compromised GAAP standards. Now that the environment for capital formation is far more favorable now than it was then, they are revoking what was always meant to be a one-time concession.

Deutsche Bank's Ackerman Forecasts Trouble Ahead

Deutsche just moved up a notch in my book, but I have to double check their VaR numbers