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Unwinding Of The AUD/JPY And Other Carry Trades Is Going To Take BHP Billiton Ever Lower

|Includes: BHP Billiton Limited (BHP), COPX, FXA, UUP

I ... Summary of financial market activity for the week ending August 13, 2010

The world entered into Kondratieff Winter August 11, 2010 as currencies were sold off against the Yen, resulting in a sell off of Stocks and Commodities. US Treasuries, Municipal Bonds and State Bonds, rose taking Total Bonds, higher the week ending August 13, 2010; these are peaking out and will be joining the other financial products tumbling lower together, while gold has risen to be the Sovereign Global Currency.

The US Dollar, $USD, rose a massive 3.2% this week to 82.95 which takes it above the middle of a broadening top pattern placing it at risk for falling lower.

Marvin Bolt in SeekingAlpha article Global Imbalances and the Impact on the U.S. Dollar relates: ”The supply of dollars available for sale in the foreign exchange market. So far the positive fund flows have outweighed the negative psychology. As long as foreign investors are willing to swap dollars for US Treasuries, the dollar does not collapse.”

But eventually collapse it will, it and all other currencies as on April 26, 2010, the currency traders sold the all currencies off against the Yen. Then on June 10, the currency traders went long the Euro and other currencies against the Yen, as the EFSF Monetary Authority was announced, and the US Dollar fell lower. Thus, through debt deflation, we have entered the age of competitive currency deflation.

Mr. Bolt continues: “Many of America’s biggest trading partners are also some of the largest foreign holders of US debt, which illustrates how effective the US government has been at swapping trade-related dollars for Treasury securities” … “As long as foreign investors are willing to swap dollars for US Treasuries, the dollar does not collapse.”

The major currencies, DBV, fell 2.6% this week, the developing currencies, CEW, fell  1.35% and the Euro, FXE, fell 4%.

It is noteworthy that major currencies fell more than the emerging currencies which is likely due to the large sovereign, banking, corporate, and personal debt load in the developed nations.

The Euro Yen carry trade, the EUR/JPY, unwound 3%, as did others,  causing world stocks, VT, to fall 4.5% and commodities, DBC, 3.75%.

Gold, $GOLD, rose to $1,215.

Investors took flight to US Government Bonds, TLT, which rose 2% to 102.5, and the US Ten Year Note, IEF, which rose 1.25% to 98, causing Total Bonds, BND, to rise 0.20 % to 82.25.

A comparison of  ^TNX, together with ^TYX, and gold, GLD, shows that the yield curve rose this week sending gold higher: ^TNX, ^TYX,  and GLD – the yield curve’s rise came from the 10 year rate falling faster than the 30 Year rate.

If investors stop buying the 10 Year Note, IEF, and continue to buy the 30 Year US Government bond, then the yield curve will fall to be less steep. 

II ... The steepness of the yield curve may cause a liquidity evaporation as investors turn away from all debt including the US Sovereign Debt.

In this situation there will not be enough buyers for sellers of stocks, and bonds. This lack of buyers will cause interest rates to explode higher and cause gold to rise. How much higher gold will rise is the question.

The rise in the Yield Curve Monthly $TYX:$TNX is quite stunning. It has a major factor driving gold, $GOLD, higher since late 2008 and especially since April 2010.

The interest on the US 10 Year Note, TNX, and the interest rate on the 30 Year US Government Bond, TYX, may start to rise the week commencing August 16, 2010 should stocks rise or simply as a response to the terrifically high yield curve or after the Obama Administration  holds its Conference On The Future of Housing Finance on August 17, 2010.  

Marvin Bolt provides this insight:  ”The term “carry trade” originates from the concept of the “cost of carry”. If an investment pays current income, such as a Treasury bill, it has a positive cost of carry. Commodities, for example, will typically have a negative cost of carry incurred from expenses related to storage of the asset. For a normal, positive sloping yield curve, short-term interest rates will offer the lowest yields. A carry trade is therefore typically funded by continuously rolling over short-term loans, with a low-cost of carry, to invest in assets with relatively higher expected returns. When the cost of carry increases due to rising interest rates, or unfavorable movements in currency exchange rates, the carry trade will be unwound.”

I ask could it be that there are carry trade dollars in the US Ten Year Note, IEF, and now that the euro yen carry trade has unwound, might investors sell out of their 10 Year Note position and the 30 Year US Treasury, TLT, as well?

III ... Those short the market the week ending August 13, 2010 profited

I provide a list of 15 ETFs to sell short and 7 ETFs to buy long for a debt deflationary bear market. Personally I am invested in gold coins

Profits came to short sellers the week ending August 13, 2010; the best came with SJH +13 and Europe EPV +12. 

These ETFs fell rewarding the investor: Alerian energy partnership AMJ -3%,  Small cap consumer discretionary XLYS -6%, housing XHB -6%, solar TAN -7%, Spain EWP -9%, European Financials EUFN -8%, and small cap pure value stocks RZV -8%.

These 200% long ETFs produced profits:  Japan EWV +6% , the Euro EUO +8%, small cap value SJH +13, Europe EPV +12, Gold DGP, 1.5%.

Volatility VXX was up 11%.

Since Financial Preferred, PGF, and Ford Motor Credit Co, FCZ, a stock have not sold off; it is an excellent time to go short on these 

Municipal Bonds MUB, and California Bonds CMF, are trading strongly with 20 to 30 Year US Government debt, so one will have to wait to sell these.  

But, Emerging Market Bonds EMB, Zeroes ZROZ, and Junk Bonds JNK, have been weakened enough to justify going short at this time.

And soon one will be able to go long with the 300% inverse Debt ETF TMV.

Because of my concern over investment liquidity I am invested in gold coins. 

IV ... Credit liquidity will evaporate when bonds trade lower and interest rates rise creating the need for Credit Bosses, what I call Credit Seigniors, who will be appointed to issue and manage credit, as the debt bubble implodes, liquidity evaporates and the economy shatters.

Here in the US, I envision, that out of a coming credit crisis, where there is no credit available, a Financial Regulator, will exercise Discretionary Governance, and announce a Home Leasing Program administered by the banks on their REO properties and those of Freddie Mac, Fannie Mae and the US Federal Reserve.

I am of the conviction that mortgage lending and securitization of loans will cease, and leasing of homes will be a public private partnership cooperative endeavor. Companies that have done servicing mortgage-backed securities, such as Anworth Mortgage Asset Corporation, ANH, will quickly disappear from the economic landscape, as mortgage bond funds such as Goldman Sachs Mortgage Bonds, GSUAX, tumble in value.

I also envision that this Credit Seignior, perhaps in public private partnership with American Express, AXP, and Capitol One Finance, COF, will provide seigniorage for credit. He will provide finance and issue credit mostly to those companies which serve strategic national needs.

V ... The two spigots of investment liquidity have been turned off.

The first spigot to be turned off was the ending of TARP and other Federal Facilities on March 31, 2010.

The second spigot to be turned off was the sell-off currencies on April 26, 2010, followed by a purchase of currencies on June 10, 2010 with the announcement of the EFSF monetary authority, and then a sell-off of currencies on August 11, 2010 as the currency traders sold the euro-yen and other yen based carry trades.   

With both spigots of investment liquidity turned off, it is like I write: the world has entered into Kondratieff Winter with stocks, many commodities, and the Junk bonds, JNK, selling off.

And as a result interest rates will be soaring. There will be a liquidity squeeze, where there will not be enough buyers for sellers, and as a result liquidity will evaporate, resulting in a credit crisis, where the only credit will come from a combine of government and banking and the credit will be distributed according to the security needs of the nation and industry.

VI ... Carry trades move the financial market places 

To obtain some insight about the power of carry trade investing and the coming deleveraging, I present the Forex Advice Saturday August 14, 2010 article Forex Strategies: “Carry Trade” which reports on the popularity of carry trade investing relating that “Since January 2000 till May, 2007, the currency pair AUD/JPY has ensured mid-annual yield in 5.14 %. For the majority of people, such yield will seem insignificant, but in the market, where the credit lever reaches 200:1 even if to use 5 and the 10-fold lever, it is possible to get extremely high profit. Investors earn this profit even if the rate of currency pair will not grow on a penny. However, considering as many people take a great interest in bargains carry trade, the rate of exchange almost never remains low. For last 6.5 years, rate of exchange AUD/USD has grown on 83 %, ensuring almost 100 %-s’ yield on a long position in AUDJPY. If to use at least the lever 2:1, it already will be 200 %.

Pluses and minuses: Unfortunately, strategy “carry trade” does not become simpler before currency purchase with high yield, selling currency with low yield. It is not difficult to understand that this strategy appears unprofitable as soon as the rate of exchange decreases on size of mid-annual yield. At use of credit levers, losses can appear even more essential. Therefore, when bargains of carry trade go not how it is necessary, liquidation of items can appear destructive. In this connection, it is important to understand, when bargains carry trade work, and when there is no.

When carry trade does not work the Central bank reduces interest rates Yield of bargains carry trade, it appears in doubt when the countries offering high interest rates, start them to reduce. Initial change of a monetary policy tends to make the basic change in the tendency of rates of exchange. That bargains carry trade were favorable, the rate of currency pair or should remain invariable, or be increased.

When there is a reduction of interest rates, foreign investors exchange willingly purchase the given currency and with bigger readiness search more for good openings. When it occurs, demand for a volute weakens, and it starts to sell. Falling of a rate of currency pair can easily cross out any income of percent.

Central bank Strategy “carry trade” also carries out interventions will fail, if the central bank conducts money market interventions to prevent or strengthening, or national currency easing is overwork. For the countries which economy very hardly depends on export, excessively strong national currency can cause a notable loss while currency easing on the contrary can affect very favorably.

It is especially brightly shown for financing of bargains ‘’carry trade”. Many foreign companies complain that the weak yen does their goods less competitive in the global market. They ask the politicians to press from time to time Japanese that those either have increased interest rates, or have carried out interventions for the purpose to prevent the further decrease in yen. The same can be told concerning intervention of the Reserve bank of New Zealand for the purpose to weaken a New Zealand dollar rate.”

VII ... Three charts show the waves of the Australian Dollar Yen carry trade, which move investing in Australia as well as in commodities.

FXA:FXY Monthly shows a close at 0.78. It was on April 26, 2010, the Australian Dollar Yen carry trade entered a wave 3 down. Then on August 9, 2010, the Australian Dollar Yen carry trade entered into a “3 of 3 down”; these “3 of 3 waves” are the most destructive of all investment waves, as they destroy practically all of the investment wealth that has accrued over the years.  

FXA:FXY Weekly shows a close at 0.78 on August 13, 2010, at the middle of a broadening top pattern that goes back to October 2009.

FXA:FXY Daily daily shows a close at 0.779 on August 13, 2010, at the middle of a broadening top pattern; prices usually fall from such patterns. All I can say is “lookout below” as the down draft from the unwinding AUDJPY is going to be strong. 

VIII ... The Yahoo Finance chart of BHP, and the chart of BHP reflect the power of the Australian Dollar carry trade.

Significant deleveraging of investment value in BHP is coming, now that the twin spigots of QE and carry trade investment liquidity have been turned off.

Unwinding of yen carry trade investing is in this copper, COPX, and basic materials, IYM, stock leader, will take the share price significantly lower from its 71.28 August 13, 2010 level. 

Disclosure: I am invested in gold coins