3 Big Shifts: Stronger Dollar, Weaker RMB And Wobbly CDOs

by: Enzio von Pfeil

The dollar is set to strengthen; China's growth policy has changed, and online debt is being bundled into shonky CDOs. Investment implications.

  1. Stronger Dollar

    On a trade-weighted basis, the dollar hit a 15-month low on Tuesday, 3rd May. Over the course of over a week, it has risen by two percent, or by around 14 percent annualised. It will keep climbing against the yen and Euro, but also against the RMB for three reasons. The first one is simple: excluding the RMB, the dollar yields more, so why shouldn't it strengthen? Secondly, a weaker yen as well as RMB are part of a documented policy shift particularly in Japan and China. Finally, anyone who has seen/read Michael Lewis' The Big Short knows that banks are in the business of making money however they can. We all know that particularly in Europe and Japan, banks are flush with cash - but they have not been lending. And we also know that the new-found holy grail of finance is compliance, meaning that the regulators slowly but surely are asphyxiating banks' ability to make money. So they will turn where they can. One way is to collude most discretely, on trading desks, and this is what I think has been happening for the past 15 months when the yen and Euro rose, defying any common sense. I mean: how can you have interest rates lower than the dollar's, but the currency with the lower interest rate, if not a negative one, keeps rising? If you believe a shred of what I am suggesting, then big banks' traders must have colluded in shorting the dollar down, and as of last Tuesday, they have been colluding to go long particularly the dollar. Any other credible way to explain that reversal of 3rd May? Investment Implication: buy dollars and invest in American importers, who should enjoy lower import costs, particularly in the retail sector.
  2. China's Policy Shift

    We've all read about Deepthroat, that "authoritative source," telling the world on 9th May that China should stop its credit-pumped growth and that her growth trajectory would go to "L" for some years. This "tapering" of credit injections sounds like it will give rise to increased capital outflows: why keep the money in China if the place's growth is going to go L-shaped as opposed to its current "V" or "U" shape? Capital outflows will beget a weaker RMB. So the government is stuck in a policy dilemma: support the RMB by tightening, by creating an "excess demand for money" in the jargon of our Economic Clock? That would be bad for the stock market. OR Beijing could let the RMB slide, thus fueling imported inflation and the wrath of that Congress of Baboons on Capitol Hill, who as usual will yell "blue murder." My guess is that they will let the RMB slide and push back at Congressional hectoring. Investment Implication: avoid China. That China wants to institute fundamental reforms - turning away from that credit-fueled economy - is good. But structural reforms will take time. This suggests that the stock market will remain moribund for quite a while, courtesy of a diminishing "excess supply of money": less credit-fueling and increased capital outflows are key reasons for less liquidity. But if you must be in China's market, then look at exporters who may benefit off a weaker RMB and importers of price-insensitive luxury goods, i.e. companies that can pass their "imported inflation" on to China's end-consumer.
  3. "Online Lenders Enter Securitisation Fray"

    I lifted this heading from the Financial Times (FT) of 11th May. When banks securitize loans, they bundle them, get them rated and sell them as a bond to the gullible greedy. People who know Michael Lewis' Big Short will be aware that this is precisely what led to the many banking crises of 2007/8: many such securities, called "collateralised debt obligations" (CDOs) got high marks from the rating agencies. One reason that the rating agencies gave them such high marks was that the issuers of CDOs were clients of the agencies providing that "objective" rating....Meanwhile, the public got mislead by such glamorous ratings, and loaded up on their sexy yields. Then the whole thing came unstuck in 2007/8... When can we expect a repeat performance, now that online loans are being securities as a variant of CDOs? Investment Implication: do NOT buy these CDOs; you will be playing with fire! Indeed, in the FT of 12th May, one op ed's headline already reads "Cracks are appearing in fintech lenders." Caveat emptor!

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