the public is in no mood to bail out Citibank and its rich shareholders.

Foreign Exchange - Currency Outlook

The financial crisis is made worse - prolonged - by the talk of US bank nationalization if nationalization is not a real possibility today, and we say it's not. It’s just smoke. On one side we have a bank that wants to protect important foreign shareholders and on the other we have a wide array of interests that want to protect the US reputation as a capitalist country that believes in private property ownership. Nationalization was always a last-ditch prospect and we are not at the last ditch, although with its stock at $2,

Citi thinks it is.

But the Geithner plan, which relies on lending government money to vulture speculators to make a market in toxic paper, is actually a good one. It’s a market solution only a little contaminated by government interference. The Paulson plan (the first version of TARP) was to buy toxic assets to free up the capital to let the banks operate properly again.

Paulson had to draw back from that plan because he had not appreciated the sheer size of the questionable paper. But the questionable paper remains at the heart of the financial crisis and the Geithner plan does address that, while simultaneously addressing bank capital levels and protecting taxpayer interests. The government is not setting the price on toxic assets, as TARP would have done. The Geithner plan is the one viable alternative to the "bad bank" plan that was rejected by the Obama Administration.

To nationalize Citigroup (which contains a lot more than Citibank) would be to throw a monkey wrench into the Geithner works. Not only would it destroy the credibility of the Treasury, it would create suspicion that more nationalization is to come - the famous "slippery slope" of the lawyers. And it almost certainly would entail creation of a mini-bad bank, an idea already rejected by the Administration and Congress as too expensive and involving too much government interference in markets (price-setting). So, what leverage might Citi have to get it done anyway?

This story has a way to go to ripen and it’s always possible that Citigroup gets broken up with a heavy dose of government money that is not quite nationalization (which would be majority ownership and management duties). But we have no reason not to believe Obama and Congressional leadership, including the hilarious Barney Franks, when they say this is not the road they intend to go down. It’s not insignificant that before the nationalization story got going, the story on Friday morning was Rick Santelli’s rant on CNBC the day before that the Obama mortgage bailout plan was rewarding the bad behavior of people who bought more house than they could afford and took on more debt than they could afford to buy luxuries. This got a large and favorable response, except for the rebuke from the Obama spokesman, who said Santelli didn’t understand the mortgage plan and didn't know what he was talking about. The favorable response is the voice of the people, who are mad as hell at bankers as well as their irresponsible neighbors. It’s not unrelated that disapproval is running really high over the woman who deliverately set out to have octuplets (while already having 6 children), which is seen as irresponsible (at best).

In this social environment, the public is in no mood to bail out Citibank and its rich shareholders.

All this story has done is distract attention away from the plight of the debtors in Eastern Europe, including a vast number of Poles and Hungarians with mortgages denominated in Swiss francs.

The nationalziation story is going to hold imaginations until something else comes along. Tomorrow and Wednesday, Bernanke gives the usual twice-yearly testimony to Congress on the state of the economy. He is likely to say what the Fed has been saying recently, that even if the financial sectors starts loosening up credit and seeing signs of recovery by year-end, it will still be a jobless recovery, the third jobless recovery since 1991. The Fed thinks unemployment will not fall under 7% until 2011 or later. Bloomberg reminds us that the 1991 recession bottomed in March but unemployment kept rising for another 15 months, reaching 7.8% in June 1992. “Similarly, the last recession ended in November 2001, and unemployment didn’t peak until reaching 6.3% in June 2003.” We seem to recall Greenspan excusing away the jobless recoveries as being due to improved productivity.

Another factor this week will be the "fiscal responsibility summit" tomorrow, at which Obama will announce more details of the plan to cut the budget deficit by the end of his first term to $533 billion, from the $1.3 trillion he inherited from Bush. The $533 would be about 3% of GDP - the Europeans will say the US is imitating them. Actually, the amount inherited is much larger because the Bush gang left out various chunks of spending that they didn't want to acknowledge, like the cost of the Iraq war. We get the actual budget details on Thursday (the same day we get new home sales). Signs of fiscal rectitude and honesty in the US "should" be US dollar -friendly.

Meanwhile, the March 5 ECB policy meeting creeps ever closer, and it's a surefire bet that the bank cuts rates, probably by 50 bp. We may also speculate that somewhere in the EC or ECB a plan is being hatched to buy the sovereign debt of troubled members like Portugal, Spain, Greece, Italy, and Ireland.

Maybe

Europe will come up with the equivalent of a plunge protection team, i.e., private players getting their arms twisted to buy this paper and reduce the spread against Bunds. Nobody seems to have noticed that Trichet, as of this morning, is changing his tune and is worried about the spillover economic effects of the financial crisis.

We call this a day late and a dollar short.

We get a lot of data this week, probably to be overshadowed by the Citi nationalization and Obama budget talk. Nothing will be much of a surprise, except possibly Friday's GDP revision from -3.8% in Q4 to possibly as much as -5.3%. Everyone is already thoroughly disheartened so it’s not clear that a downward revision is going to hurt much. Before then we get the Conference Board consumer confidence (tomorrow), existing home sales on Wednesday and new home sales on Thursday, and the University of Michigan consumer confidence on Friday. Also Thursday is Jan durables, probably the one other data point that can move the market this week.

We continue to like the dollar.

Watch gold - it’s not really a currency and its limitations are clear to even the most ideological of true believers. Secretary of State Clinton told the Chinese she wants them to keep buying dollars and dollar paper. So far we have no reason to think they will not, and you should, too. It is the safe-haven. Unless the stock markets rallies like crazy this week - and why would it do that? - the US dollar should recover smartly.

Pounds to US Dollars = 1.4619
Pounds to Euros = 1.1400
Euro to Pounds = 0.8765
Pounds to Australian Dollars = 2.2600

Bye For Now

Barbara Rockefeller
Foreign Exchange Trading
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OECD reports that all of its 30 members are officially in recession

Foreign Exchange - Currency Outlook

Contraction is the order of the day and it’s about time everyone acknowledges it instead of engaging in denial and wishful thinking. The OECD reports that all of its 30 members are officially in recession with two consecutive quarters of contract, a combined -1.5% q/q and -1.1% y/y in Q4. It’s the biggest quarter-to-quarter contraction since the OECD began keeping records in 1960.

Outside the developed countries of the OECD, conditions are worse and worsening fast. Russia admits it will get contraction of 2.2% and the ruble hit a new low yesterday. Recently China said unemployment is 20 million persons, more than the entire population of some countries. The Eastern European countries are talking about defending their crashing currencies, with Poland knocking on the EMU door but honestly not qualifying (the Polish zloty has fallen 19% already vs. a rule of no more than 15% variation in the two years leading up to membership). In the real basket-case of Zimbabwe, where banknotes of face value in the billions, the currency was abandoned in favor of the dollar.

We guess that while it’s noble and useful for the Germans to step up to the plate and try to defend the eurozone members that need fiscal help, the market is missing the point when it buys euros on the story - the real meaning is that the eurozone is on shaky legs and members NEED help. The structural shortcomings of the European economy have resulted in big premiums for some members’ debt over the benchmark German Bund, as the BBK acknowledges. This shouldn’t happen if the market really believes that the union itself is a safekeeping device against performance divergence. But it’s not. The lack of a union-wide fiscal capability is fatal, or might be.

Everyone said the eurozone would get its first real test when a giant recession came along, and here it is.

It’s actually pretty silly to buy euros when a eurzone-crisis is finally being ackknowledged!

We think the dollar exchange rate will recover from this correction, which was always going to happen after the big move. We happened to get a good story this time but there’s always a story that foreign exchange traders use as an excuse to form a correction. We will not get too worried unless the euro puts in a true breakout, like 1.3000. Note the round number.

Pounds to US Dollars = 1.4340
Pounds to Euros = 1.1275
Euro to Pounds = 0.8865
Pounds to Australian Dollars = 2.2100

Bye For Now

Barbara Rockefeller
Foreign Exchange Trading
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we have faith in the world’s ability to produce more bad news.

Foreign Exchange - Currency Outlook

The most important comment today is from IMF Director Strauss-Kahn, the former French finance minister. Going into G7 today, he said "The problem is that the effect on the real economy, for the most part, is still to come." All the talk of better financial market regulation (the focus of French FinMin Lagarde as well as US TreasSec Geithner) is certainly needed, but we don’t have a clue as to whether G8 or G20 can coordinate initiatives and polices to get the global economy rolling again. It looks like differing priorities and ideologies are getting in the way. Everyone has a stimulus plan but each is independent of the others because of domestic political considerations. We find it curious that Germany is the most reluctant stimulator. This could be because the German banking system is in dire straits, worse than we know.

Some say that improving conditions in the housing sector are the key, chiefly halting the rising trend of foreclosures.

We do not agree.

Housing is a critical component but fixing it, even if that were possible, is no longer sufficient. Now the focus needs to be on the banking sector. Quite apart from the question of whether banks should survive horrendous management mistakes and in what form, the modern economy needs the multiplier effect of fractional reserve banking. Like it or not, it’s the bedrock of all modern economies. It’s why the North Dakota economy is okay and the economy of (say) Kenya is not.

Let's not get into whether fractional reserve banking is an evil thing, as some self-described Libertarians and various nut-jobs say. Evil or not, it's the way the world works and has worked for nearly a century, and there is no viable alternative (and certainly not gold). For all of us to have incomes, let alone "wealth," banks must lend. Fixing the credit system is Job One. It comes even before better regulation, much as it pains us to admit it. It comes before questions of trade protectionism and the distribution of hand-outs. If the banks are not lending, economies will continue to shrink. The UK, somewhat ironically, has been the leader in prodding banks to lend, followed by the US.

If all we do is follow risk aversion as measured by US initiatives or stories about initiatives and the stock market's reaction to the stories, we'd have to guess that the US will continue to deliver good news. This is not a vote of confidence in the Obama administration but rather a reflection on the way things get done in the US—fast, and changing fast if the response is not favorable. The problem for us in the Foreign exchange market is that good news means a drop in risk aversion and thus in the dollar. The dollar benefits from safe haven inflows that are much bigger than what we see in the bond auctions or even the Treasury's capital flow report. It’s hot money with a holding period of one day. If the financial world decides to invest in (say) higher-yielding and still-growing places like India and China, the US dollar is the thing that gets sold.

Having said that, the contraction in European GDP today means the ECB will be cutting rates (while the US is done with that one). Paring positions ahead of G7 was always to be expected. A weekend announcement of yet another financial sector problem - possibly in Europe - could change everything back to a loss of appetite for risk - and it "should." We are not willing to abandon a trend that is clear on the charts and clearly backed by realistic economic analysis for a flyer on other currencies whose countries have yet to admit to structural economic problems. In other words, we have faith in the world’s ability to produce more bad news.

Euro Exchange rate last at 1.2867

Bye For Now

Barbara Rockefeller

Foreign Exchange Trading

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Trichet and his cohorts on the ECB policy board are smart guys

Foreign Exchange - Currency Outlook

The big release today is retail sales, probably a drop of 0.8%, according to the Bloomberg survey. We also get the usual weekly applications for unemployment beenfits, probably a horrifying 610,000 for the Feb 8 week after 626,000 the week before. Another Bloomberg survey finds that the consensus of economists is for the US economy to contract at an annual rate of 5% in Q1, with Q2 delivering a lesser contraction of 1.7% and the full-year coming in at –2% y/y. The slide in consumer spending will be the longest-lasting on record, says Bloomberg. One economist says all four quarters would be negative without the Obama stimulus plan. By 2010, we could see growth at 1.9%, with 2.9% in 2011 - but the odds are barely in our favor. "Economists estimated odds that the economy will be out of the recession in the next 12 months at 53 percent, down from 55 percent in January, the survey showed."

The unemployment rate will rise to 8.4% this year and 8.5% next year before recovering to 7.9% in 2011, and "the federal budget deficit as a percentage of GDP will average 10 percent this year, a postwar high." We say 10% is a mere bag of shells. Unless everything goes smoothly, it could be 20% or 30% or some other number.

Recounting the economic catastrophe in the US tells us something about what to expect elsewhere. The US is more flexible/adaptable than most other economies, especially in labor markets. If the US is going to contract a net 2% this year but be coming out of it by year-end, should we assume that the eurozone will decline by more and lag by (say) two quarters, if not more? Yes. This is our "it’s worse elsewhere" argument we imagine it still stands. We also think that Trichet and his cohorts on the ECB policy board are smart guys, and if they are reluctant to cut rates to zero, they must have a really, really good reason beyond stubbornness for the sake of stubbornness. (We might not have said that of Duisenberg but Trichet is a different color of cat).

Ironically, if the market starts believing that a delayed Geithner plan will be a better plan, and if he speaks well at G7 (squeaking to Congress was not awe-inspiring), confidence could come back and this is dollar-negative. Whether we like it or not, the US is taking the global lead on stimulus and on financial sector restructuring. The UK has a somewhat different model (entailing insurance/guarantees, Gilt-buying and probably bank nationalization) while the US is going for a free-market approach that will be messier but solve the problem of pricing toxic assets. We are inclined to believe that mid-year is a real possibility for a turn in the tide—unless another wave of Alt A or other defaults comes along, and maybe by then we will have a mechanism in place to deal with it. Everyone else will still be lagging along…

We like the US dollar again for the near-term, which is now on the order of only about 6-12 hours.

Bye For Now

Barbara Rockefeller
Foreign Exchange Trading
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Factors for the euro exchange rates decline

Foreign Exchange - US Dollar, Euro and Pounds Sterling Outlook,

The US dollar exchange rate rose yesterday across the board - but only fractionally against the yen - on a flood of bad economic data just about everywhere and US stock indices falling back. Oil fell, too. It might be fairer to say the euro exchange rate was the center of attention rather than the dollar exchange rate, since the euro fell against the pound, yen and Swiss franc as well as the US dollar.

Factors for the euro exchange rates decline included its failure to reach beyond the early high around 9 am yesterday at 1.3179 to the previous day's high at 1.3328. Around noon the euro made a big jump down from 1.3079 to 1.2930, breaking the previous day's low, and then it was all over for technical traders - they had confirmation, however simple, of the next direction.
We don’t have the timestamp but evidently George Soros told an Austrian newspaper (Der Standard) that the euro may not survive unless the EU pushes for a global plan to deal with toxic debt. Bloomberg picked up the story and it apparently scared a sizeable amount of risk aversion back into market sentiment. Actually, Soros is not saying anything more drastic than the British, who are also appealing for a global solution (at G20), but such is the magic of the Soros name that traders didn’t want to be bothered with the facts. He didn’t say the EU needs a solution to its own toxic paper problem, although that is what the market heard.

Bye For Now

Barbara Rockefeller
Foreign Exchange Trading
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foreign exchange traders sold the euro to 1.3099 today on more bad news

Foreign Exchange Outlook : The US dollar exchange rate rose again yesterday from 1.3282 at 8 am in New York to 1.3138 by mid-afternoon, but was already giving some of it back into the close at 1.3180. The euro exchange rate suffered yesterday from bad economic data and a dollop of worry over fiscal conditions that clearly will violate the Stability Pact and triggered ratings agency downgrades (Spain on top of Ireland and Greece), but then as the euro exchange rates fell under a critical level around 1.3250, foreign exchange traders got worried the euro exchange rate was getting oversold and the market was running out of sellers. The 1.3250 level is the 62% Fib retracement of the euro's upmove from the Oct low at 1.2329 to the Dec high at 1.4719.

Sure enough, the euro rate rose overnight to 1.3338, but when Europe took the trading baton from Asia, foreign exchange traders sold the euro anew to 1.3188 again, not quite matching yesterday's lows but having the virtue of creating a new hand-drawn resistance line on the hourly chart (at 1.3310). Reasons for the euro to dip again include a false rumor that Ireland was already going to the IMF (it's only threatening) and German GDP, which came in at 1.3% for 2008 when 1.4% was forecast and in contrast to 2.5% in 2007. Adjusted for working days, German 2008 growth was a mere 1%.

Sterling, dollar to japanese yen and euro to Japanese yen made a similar small corrective bounce. The correction may not be over, alas, and could turn into a bigger upmove - depending on what the ECB does and says tomorrow. Right now we think it’s a minor event but foreign exchange traders have their chaps and spurs on, and are ready to ride a bucking horse.

Bye For Now

Barbara Rockefeller
Foreign Exchange Trading
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UBS, which repeated yesterday that the euro exchange rate will fall to 1.2000 by year-end.

Foreign Exchange Outlook : As we wrote yesterday, a decline was the euros manifest destiny even as it was rising last week because it was inevitable that the ECB would not stand apart from the rest of the world, clinging to an outdated anti-inflationary stance in a disinflationary world. This was and remains the persepctive of major Foreign Exchange market players like UBS, which repeated yesterday that the euro exchange rate will fall to 1.2000 by year-end. The forecast itself from such an important name becomes a factor in its own right. Even if the ECB stays on hold or cuts by only 25 bp, the bank says, expectations of cuts next time will get built in. "Thus the euro rate is likely to remain a sell on rallies against both the dollar and the yen."



We say this is exactly right.

We expect an ECB surprise on Thursday. ECB chief Trichet said "this is no time for complacency." The current challenges are pressing and new challenges will arise. He was (evidently) talking about a "firm and credible implementation of the EU stability pact," i.e., fiscal restraint, but Trichet is a really smart guy and he must know that to complain about overspending (Germany will break the pact in 2010) is spitting into the wind. We expect Trichet to make some critical comments accompanying the rate decision.

In the background is some chatter, mostly from the lunatic fringe, about some countries being forced to leave the EMU (Italy, Greece, Spain, Ireland are the most-cited names). We say it's much too early to be thinking along these lines, let alone making trading decisions based on such speculation.

For one thing, there is literally no mechanism for a member to leave the EMU.

Nobody knows how that could be accomplished. Having said that, there is an explicit deal that the EMU will not rescue a failed member, either. This is not so odd - New York State doesn't have to step up and rescue Massachusetts, either. Still, stress on certain names is generally euro exchange rate negative, although Bank of New York economist Woolfolk says that a weak country leaving the EMU would be a euro exchange rate positive. Well, no. While pan-European integration has hardly been a full-scale success, leakage from a failed economy could be substantial, from loss of export sales to immigration. We think the EMU would indeed come up with a rescue plan… but for whom? Spain yes but Greece no?

Back in the broader market, there's almost too much data this week to keep it all straight, but we must pay attention to Bernanke's speech at the London School of Economics today. But again, it almost doesn’t matter what he says because "it's worse elsewhere." See all the grim data above in the UK, Germany, Spain (ratings). We have the secret weapon of Obama, of whom far too much is being expected… but he is our secret weapon all the same.

Nobody else has an Obama.

Nobody else has a federal structure, either.

And finally, nobody else is willing to experiment as wildly as the US, badly managed as it seems to be. Keep the faith - the US dollar exchange rate is on a roll.

Note to Readers: Next Monday, Jan 19, is Martin Luther King Day and a national holiday in the US. The market is closed and we will not publish any reports. The next day is the Obama inauguration, yippee.

Bye For Now



Barbara Rockefeller

Foreign Exchange Trading

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We continue to think the dollar exchange rate will come back after this big and abrupt correction, which has by no means proven itself a true reversal

Foreign Exchange Outlook : The Fed funds rate at 1% matches the level of June 2003 and before that had not been in force since the 1950’s. That should suffice to scare everybody, not least because we have no idea what’s next-0.50%, or zero, as in Japan? The Fed is running out of traditional ammunition. Today we must expect Q3 GDP to be a negative number. The Bloomberg survey comes up with a drop of 0.5%. As always, we have to wonder if a lesser drop would be dollar exchange rate supportive and a bigger drop even more sharply dollar-negative. This gets tricky and tangled because a bigger drop implies lower oil and commodity prices, which “should” be US dollar-favorable. The scary rise in commodity prices, especially oil, on the US rate cut is probably doomed. It’s a bad assumption under current conditions to think rate cuts can goose activity and restore growth to its old path. The old path is gone. This should be welcome because we needed to break the circular link between oil and the dollar.

The big-picture reasons to think the US dollar will not reverse trends include that the unwinding of leveraged positions is not over yet. It took about 5 years to establish these positions. Surely it takes longer than a few months to unwind them all. In fact, those who put on carry trades five years ago are not in hot water yet… raising the question of whether they need to get unwound. Besides, there are always some diehards. Even those positions that are not heavily leveraged may get undone. State Street said last week that US investments overseas total $5 trillion. Everyone fell in love with the idea of diversification, but maybe it looks less appealing today, especially in emerging foreign exchange markets.

Another big-picture idea is that US rates are now almost at rock-bottom, while Europe still boasts an overnight rate of 3.75%. As ECB chief Trichet warned, a rate cut next week is a real possibility-and the market thinks more are possible, too, for a total of 75 bp by year-end to 3%. This would give the eurozone an advantage of 200 bp, but in a global recession, higher rates are a drag, not an advantage. Besides, as we have seen, the rate for euros is no longer the key rate. Instead the key rate is the US Dollar rate among European banks, and since they won’t lend to one another, the US Fed is providing the funding, at a premium. In sum, European banks have a trust issue and can get credit only from their own central bank in a currency that the central bank does not issue. This is embarrassing and significantly lowers the status of eurozone institutions both private and public.

We continue to think the dollar exchange rate will come back after this big and abrupt correction, which has by no means proven itself a true reversal.

Faith in the US dollar is based on the same factors as before-the safe-haven bid will return with a vengeance when the next Shock hits. At this point, despite the uneven implementation of the US rescue plan, the most likely location of the next Shock is outside the US.

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Barbara Rockefeller
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Buying Euros? Buy Euros at the best euro exchange rate contact IMS Foreign Exchange

Bank of New Zealand and Canada to cut interest rates

Foreign Exchange Outlook : We have yet to get an “October surprise,” the attention-grabbing Event manufactured specifically to influence the election. Perhaps conditions are so bad today that collectively they are the October surprise. Or perhaps in a few days we will get another tape from Osama bin Laden, who sent one four days before the 2004 election.

Even without a terrorist event, we have plenty of potential surprises. Today we get the Conference Board leading indicators, and we know it will be dismal. Bernanke testifies to the House Budget Committee on the US economic recovery. Recovery? We can’t talk about recovery until we have hit bottom, can we? Tomorrow we get the Bank of Canada (and Reserve Bank of New Zealand) rate decision. Canada is seen cutting 50 bp and New Zealand to cut interest rates 100 bp. These are smaller economies but probably in the forefront of more cuts to come until there’s nothing left for savers at all, exactly as occurred in Japan.

We have far too much information in the world today. Nobody can digest it all. It’s tempting to forget about the world of finance and just watch the increasingly lurid soap opera of the US presidential election. But some things stand out-if Iceland really did commit a sovereign default, it doesn’t matter that it’s a tiny country with fewer people than a Manhattan block of apartment buildings. It’s the way of the market to ask "Who’s next?" and then try to get a self-fulfilling prophecy. Hungary? Ukraine? Russia itself? All the fine talk of “recovery” is PR smoke.

There can be no recovery until all the damaged planes have crashed.

We are not there yet.

Still to come are regional US banks that the Feds won't save, among other disasters. All in all, this is awful stuff but good for the US dollar exchange rate.

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Barbara Rockefeller
Forex Trading Reports

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Government rescue of hedge funds is not going to happen

Foreign Exchange Outlook :

We keep running into some remarkably foolish commentary now that the world has blown up.

Stratfor claims that it can predict economies without actually knowing any economics, which a little like taking stock tips from the shoeshine boy, isn’t it? It predicted the Russian invasion of Georgia, which had no real effect on global markets and doesn’t pass the “so what? test. Even if you can see the broad outline of upcoming events, that doesn’t mean you know how to trade it. Trading skills are entirely different from macro analytical skills.

Probably the most foolish idea of all is that those nasty hedge funds are going to get their comeuppance, with 30% of them failing (Credit Suisse). According to the WSJ, this is the worst year ever for hedge funds, collectively down 5.4% in September and 10.1% for the year (which is still better than indexing to the S&P, down 20% over the same period). This is because banks are pulling back credit and the funds have to reduce leverage, which means they must sell positions in everything-stocks, bonds, commodities, alphabet soup paper, currencies. That’s on top of having to sell positions to repay investors, most of whom had to sit through a long waiting period to get their money back.

We don’t deny that the contraction everywhere in the financial universe will cause hedge funds to contract, too, but we object to the imposition of a value judgment on the hedge funds as somehow predatory. A good hedge fund offers some protection against the market dropping—the original raison d’etre of hedge funds-which means the investor is prudent and conservative. That’s a good thing, not a bad one. Hedge fund investors include giant massive pension funds, for example, as well as the savings of rich folks. As a value, we’d rather pension funds invest conservatively than be out flailing around speculatively, don’t we? Hedge funds are systematic, too, another good thing. The only thing we can really complain about is leverage, and that’s certainly the pot calling the kettle black. There is not a single financial entity out there not using leverage except maybe Aunt Millie, who doesn’t have a credit card and has paid off the mortgage.

We are not convinced that things have changed forever, government intervention or not, and will be convinced only when all governments everywhere agree to regulate leverage. (Even then the leverage-seeking can find haven in Jersey or somewhere.)

We know that Long-Term Capital had leverage of about 30x and Bear Stearns, 35x. But like the rain falling on the just and the unjust alike, the involuntary contraction of hedge funds due to deleveraging will wreak havoc across the whole industry. It is not necessarily true that the funds left standing will those the least leveraged-a highly leveraged fund can do better than a lightly leveraged one if it was invested in the right stuff. It’s wrong to take joy in the destruction of the hedge funds-that’s somebody’s retirement going down the drain. Unless you want the public to fund all retirements with government plans, we should be figuring out ways to help the hedge funds, too, not cheering their demise.

Government rescue of hedge funds is not going to happen, of course.

In fact, Paulson said there would be no money for “unregulated” companies, presumably referring to hedge funds but also perhaps with a gimlet eye on others—auto companies? Therefore, the fate of hedge funds-whether 30% fail or 80%-depends on when prices stabilize in financial and commodity markets. We should assume that hedge fund managers really do know something the rest of us do not, including timing the economic cycle. TrimTabs, which tracks hedge funds as well as mutual funds, says hedge funds sold $43 billion in September and perhaps as much as $50 billion in Oct. “In many cases, the funds seemed to be raising cash preemptively,” says a TrimTabs executive. Hmm, “preemptively.” Does that mean rejigggering portfolios in the newly deleveraged environment is a worthwhile exercise? Of course. And it also means being less defensive. Gold and cash are both a crummy “investment.” They have no intrinsic yield and the opportunity cost is high. As Warren Buffett says in the NY Times, "Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value." Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

Equities will almost certainly outperform cash over the next decade, probably by a substantial degree. Those investors who cling now to cash are betting they can efficiently time their move away from it later. In waiting for the comfort of good news, they are ignoring Wayne Gretzky’s advice: ‘I skate to where the puck is going to be, not to where it has been.’ Buffett is putting his personal money, previously all in Treasuries, into US stocks.

The other big Event to look forward to is the overall calming of panic and frenzy. Alas, panic and frenzy are US dollar -favorable. As the TICS analysis above shows, demand for dollars is an emergency thing. When things go back to normal, this demand will evaporate, and the US will have an unfunded current account deficit. The Middle East and China are sitting this one out, showing not the slightest inclination to rescue anybody. Unless everyone follows Buffett’s advice and the US stock market recovers lustily, we can’t count on foreign capital inflows to balance the deficit. Besides, the dollar exchange rate is not highly correlated to the stock indices. This is the nightmare scenario that so many doom-and-gloom analysts have predicted for so many years.

We take comfort and a strong US dollar exchange rate scenario from the idea that while screaming panic may be gone-overnght LIBOR at 10% for European banks is screaming panic-anxiety is not gone, and rightly so. The bailouts can fail. The bailouts can be insufficient and cause governments to pony up even larger sums. Other companies and industries "too big to fail" can emerge, like the auto companies or insurance companies or perhaps a black swan. The recession can be bigger, deeper and longer-lasting, and hurt other economies worse than the US.

We are sticking with the strong US Dollar scenario a bit longer.

Buy for Now

Barbara Rockefeller
Forex Trading Reports

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Does this mean the Fed has room for another interest rate cut, or series of cuts? Yes.

Foreign Exchange Outlook: Everybody wants to know how deep the recession will go. Yesterday’s retail sales for Sept were worse than forecast, a drop of 1.2% (including a drop of 4% for autos), while every one of the 12 regional Feds reported a slowdown in consumer spending. The Empire State manufacturing index slumped to a shocking -24.6 from 7.5 in Oct. And inflation hasn’t really started falling much-the headline PPI fell 0.4% but ex-energy, rose 0.4%. PPI is up 8.7% y/y, and core PPI is up 4%. Some of this is the pig in the python and will eventually get digested, but the misery index is about to go up quite a bit, and moreover, everyone knows it.

Today we get CPI at 8:30 am ET, probably a rise of 0.2% (but with forecasters showing a wide range from –0.3% to +0.2%, according to Bloomberg). Core CPI is probably up 5% y/y, better than Aug at 5.4% y/y. Core CPI is probably 2.5% y/y, the same as August.

Does this mean the Fed has room for another rate cut, or series of cuts?

Yes.

It will be interesting to see how the Fed weaves together monetary policy, now in lights-flashing emergency mode, with a new willingness to consider bursting bubbles before they blow up too far. This seems to be the new Bernanke stance, after two decades of the Greenspanian hands-off attitude toward bubbles. Speaking to the Economic Club of New York yesterday, Bernanke said we need to take a fresh look at how regulation and monetary policy might take on the “dangerous phenomenon” of asset bubbles—after the current crisis is past. It’s fun to note that when Greenspan held his first Fed board meeting, according to Woodward’s Maestro and other books about the Greenspan Fed, he asked why the Fed was doing nothing about the stock market at the time. This was just ahead of Black Monday. In other words, Greenspan was not always a hands-off guy on Randian principles.

Also today we get industrial production for Sept, probably a drop of 0.8% in the Sept month for the second month of decline.

The other important piece of data today is the August Treasury capital flow report, TICS. Bloomberg reports that forecasters expect foreign investors to have raised their stakes in US assets in August to $30 billion from $6.1 billion in July. We await the authoritative report from Bank of New York capital flow expert Woolfolk, who separates out the true long-term flows from the shorter-term hot money.

The sentiment in the oil industry is that the recession will be deep and long-lasting, hence the dramatically falling prices. With the US already having done a consumer stimulus in the spring, many interest rate cuts, and a bank bailout, is it running out of bullets? We say the oil gang lacks faith in the ingenuity of politicians newly motivated to keep their jobs. We tend to throw the bums out when they fail us so drastically. What else can the US do to goose growth and avert recession another day? Plenty. Congress could do an emergency tax cut for business, or another stimulus for consumers, plus the usual rate cuts. Poor Bernanke-he really is going to be stuck with the Helicopter Ben image.

Does this stuff work?

Yes, as we saw with the $300/$600 tax rebates.

Does it suffice to keep the economy rolling along for one or two more months? Yes. As Keynes said, the long-run is only a series of short runs. It’s a little like catching a cold-suppress the symptoms, and while you still have a cold, it does pass after ten days. The goal of the Fed and government is to prevent us feeling the symptoms-scratchy throat, runny nose, and coughs. Your head can rationally say conditions are terrible but an extra $300 in your pocket makes you willing to overlook what the brain is telling you. We don’t know nearly enough about behavioral economics, but we bet that some initiatives (like job creation in the alternative energy sector) will have a salutary effect even among people who could never get one of those jobs, because it gives the sense that “somebody is doing something.”

This brings us back to the election, now less than three weeks away.

McCain wants to give a tax break to rich people, which does trickle down but not to the extent he claims.

Obama wants to give a tax break to the working class, subsidize alternative energy, and spend big sums on infrastructure, among other things, which puts cash in more pockets right away.

It’s a no-brainer which is better for the economy and the prospect of the US coming out of recession. Foreign Exchange traders are opportunistic-even if they buy the old Reagan ideology, they can see which side of the bread has the butter. This is the sense in which Obama is dollar exchange rate favorable and McCain is not, quite apart from the cost of the war in Iraq. People don’t want ideology today-they want cold, hard cash.

Considering the state of the auto industry and the difficulty of getting a car loan today, we would not be surprised to see some new government program to subsidize the average Joe buying a new car. Maybe there can be a Freddie/Fanny for car paper guaranteed by the government? Quick, stop them before they invent another new program.

On the whole, the US dollar exchange rate looks good for a day or two, before the next Event.

Buy for Now

Barbara Rockefeller
Forex Trading Reports

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Does the Congressional vote on the Paulson plan still matter?

Foreign Exchange Currency Outlook :

Does the Congressional vote on the Paulson plan still matter? Yes.

It’s a bad plan but better plans are not available for immediate action, and the top officials are telling us immediate action is needed. Let’s assume the plan gets passed this week. Meanwhile, the liquidity crisis in Europe will probably weigh on the euro exchange rate, so we have both a positive and a negative reason to see the US dollar exchange rate higher. It’s sad to say so, but “worse conditions elsewhere” are indeed saving the US Dollar. This will likely continue, too. Economic data from Europe is not good and seems to point to increasingly recessionary conditions—but the ECB is likely not to respond with a interest rate cut.

As for hard data, it’s taking such a back seat it’s in the trunk of the car, but it can move the market, too, especially when it’s payrolls, the single biggest market-mover we have among all the data. We get it Friday morning. So far we have layoffs from Challenger, Gray today, up 95,094 in September from 88,736 in August. Nobody thinks the payrolls rate can be much better than 100,000, although we get the usual private sector estimate from ADP Macro today.

The US Dollar exchange rate may thrive on the grounds that the US is too big to fail and besides, it will come out of a recession faster than anyone else, even if the rescue plan is a bad one.

We have serious doubts about this reasoning, but never mind--things are worse in Frankfurt today than in New York and maybe even Washington. At least the US has a single government and is the issuer of the one currency everybody needs right now.

The contraction of the US banking sector is something the rest of the world’s banking sectors failed to plan for properly.

Golly, what will happen when China comes back from its National Day week-long holiday next week?

Some had suspected China would pull out of the US dollar as its main reserve currency. Now it’s looking like they will be scrambling to buy US Dollars like everybody else.

This is kind of fun, you have to admit.

We are getting more ocmfortable with a long US dollar posture.

Buy for Now

Barbara Rockefeller - Forex Trading Reports

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Paulson is that rare animal in Washington, a can-do guy

Foreign Exchange Currency Outlook : Consolidation in the US banking sector has been on-going for over two decades, so mergers and acquisitions don’t necessary cause contraction in the sector. A liquidity and credit crisis does cause contraction, and contraction in turn causes recession. We have seen little sign of recession yet, just slowdown. That is about to change. Some analysts say that even when the House meets again on Wednesday night or Thursday morning, the Paulson plan will not get passed - and there will not have been enough time for major changes to have been made that would make it acceptable to those who voted against it Monday. Of course, Pelosi could grovel and change enough minds or some other political event could occur—the presidential candidates promising administrative office if the pro-plan members lose their elections, for example.

The latest word seems to be that the Senate Banking Committee's ranking Republican (Gregg) and Obama both said the plan will eventually pass; the FT reports that the FTSE 100 rose on the news.

Meanwhile, Bush will address the nation on TV this morning. TreasSec Paulson was visibly angry when he addressed the press after the vote yesterday, and it would not surprise us at all if Bush announces a series of initiatives that the Treasury can take immediately without Congressional authorization. It could tap the FDIC or other Executive-branch money pool (to buy equity or warrants), it could suspend mark-to-market, it could increase the size of swap lines with everybody for any reason, and probably a few other things.

It could even sell gold (gasp!).

The reason the House was involved in the first place is that this is where the power of the purse resides.

It’s called “revenue power,” but in the end, the Executive Branch can do (and has often done) an end-run around it. We can just imagine Paulson egging Bush on, like a coach with a sports team. Bush is likely to respond heartily to such macho stuff. Paulson is that rare animal in Washington, a can-do guy. Do we really think he went to bed last night or will sit around waiting for these childish bozos in the House? It’s a Jewish holiday today, actually a good time (in somewhat thinner markets) to take strong action. It’s also possible the Fed could cut rates, even inter-meeting, but nobody thinks that’s a good idea or an idea that would work.

This is the basis on which we imagine the US Dollar exchange rate could rise today. Foreign Exchange traders just love vigorous, decisive action from can-do guys.

They bought the dollar upon the US invasion of Kuwait and then the US invasion of Iraq not because they are a blood-thirty lot, but because they like decisiveness.

If Bush/ Paulson come up with a new initiative today, the US Dollar futures should go up.

If Congress comes up with a bill that passes tomorrow, the dollar could go up.

But we can’t count on it. This is just one more reason to stand aside and let the market gyrate on too much noise. Most retail forex traders can’t push the button fast enough to take advantage of warp-speed markets. A lot of professionals can’t, either. The one big mistake to avoid is thinking that sound macro analysis is a good basis for a short-term trade. It’s not.

The right timeframe for Foreign Exchange Markets today is 5 minutes, or maybe three.

Bye for Now

Barbara Rockefeller - Forex Trading Reports

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Wall Street Bailout - This whole thing cannot end well…

Foreign Exchange Currency Outlook : Today we get personal income and spending, but since the data is backward-looking and the world has changed forever, probably not of much interest. Bloomberg reports that consumer spending probably rose in August on auto “incentives” for a rise of 0.2%, the same as July. “The average gain was 0.3% a month during the last official recession, in 2001.” Economists surveyed by Bloomberg in the first week of September forecast consumer spending in the third quarter will be flat, the weakest since 1991, following a 1.2% pace in the second quarter.

Economists forecast overall economic growth of 1.2 percent in Q3. Note that everybody is watching spending, but incomes count, too. Incomes probably rose 0.2% in Aug, after a drop of 0.7% in July. If incomes and spending are the same, that means no savings.

The details of the Paulson bailout plan are available online. The market is not judging details, just the fact that a deal was reached, even though the Senate won’t vote on it until Wednesday. Constructive criticism was slow to emerge this time, for some reason. To cries of “let the bastards fail,” we are astonished that Bernanke, the great expert on the Great Depression, failed to make more of what happened the last time the country engaged in letting the bastards fail. The Treasury Secretary at the time was Mellon, and his watchword was “Liquidate! Liquidate! Liquidate!” In other words, the emotional response (to a dyed in the wool capitalist) is to throw the miscreants under the bus, but it was the wrong thing in the 19030’s and would have been the wrong thing today.

Even as things stand today, with relief that the main political fight is over, we will now have a horrible period, perhaps lasting years, about what other plans could have been devised to do the job better without violating core principles. Every little piece of data that comes in will be viewed under the lens of the bailout plan. This is “woulda, coulda, shoulda” and is inevitable under the circs. It will be tiresome but it’s essential. Everyone is making jokes about “socialism” for the rich—and nobody is defining “socialism” or even nationalization. If a government takeover is intended to be short-term, lasting only until the entity can go back to being fully private, is it really “socialism”? We could spend all day on this kind of thing, to no real purpose. At a guess, government really should not be in the business of business because it almost always does it really badly, and this time whoever gets hired to do the actual work is going to be under a microscope. This is good but then we tend to miss the forest for the trees.

This whole thing cannot end well…

Everyone is mad as hell, but refusing to accept the lesson from Sweden’s financial sector crisis in
1991-93. Sweden selected the banks that could survive and injected equity capital into them. It worked, even though it took three years and cost the country a 5% contraction in GDP over the three years. Paulson is trying to avoid this outcome but it’s not clear it can be done with the current plan. It fact, many observers say it cannot be done with the current plan. It’s too little money, and it doesn’t address the need for capital. We are starting to get scared. The Japanese response to the US bailout and the European rescue operations is interesting-foreign exchange traders say they are relieved the Paulson plan got resolved, but they worry that it won’t work because it’s not big enough or comprehensive enough or pointed directly at the core issue, which is the housing sector. Accordingly, the the US Dollar Exchange Rate first went up during the Tokyo session but then gave it back. A loss of confidence in the US tells in the dollar. We will know probably by the end of this week whether loss of confidence is going to be the dominant theme.

On the bright side, expectations of the plan’s failure and/or upcoming US recession tend to lower oil and other commodity prices, and in the short-term, that tends to be dollar-supportive. So we have conflicting factors, lots of them, and the charts are of little help. Late Friday it really looked like the US Dollar correction was ending—but then fundamentals (bad news from the UK and Europe) trumped the charts. We try to reconcile the fundamentals with what the charts are saying, but today both the analysis of the fundamentals and chart-reading are giving off too much noise.

The solution is a situation like this is to retreat to the sidelines.

Bye for Now

Barbara Rockefeller - Forex Trading Reports

Best Euro Exchange Rates, Best Dollar Rates visit IMS Foreign Exchange

how $200 billion of bad mortgages could have created such a falling-pyramid effect

Foreign Exchange Currency Outlook : It’s conceivable that if oil were still falling and if gold were not rallying so strongly that the US dollar could survive this latest “fix” for the financial sector mess. But oil is rising and gold is rallying, and the perception is spreading that we are probably only half-way through the plans that will be needed, and haven’t even started the economic consequences of the failure. Many other shoes are out there to be dropped, especially now that the Feds have their wallet open for the picking.

We wrote last week that we are happy to see a vigorous initiative from the US government and a comprehensive one instead of the case-by-case situation we have had since Bear Stearns. But don’t be misled—nobody in his right mind can be “happy” about this outcome.

It’s awful in just about every way imaginable.

It favors the institutions that created this mess in the first place (those still standing, that is) and nowhere is there a single provision for the ordinary Joe, whether as mortagee or investor. It may just manage to resolve the liquidity crisis, but it doesn’t solve the problem of under-capitalization of the banks, which still need to raise more funds. With the Middle East and Asian investors already licking their wounds from having jumped in with both feet at the beginning of this crisis, where is the capital going to come from? The need for US government’s action has already demonstrated that the private sector isn’t willing to cough up fresh capital.

This means more bank failures, more mergers, and a giant contraction of credit everywhere in the world, not just the US.

We are having a hard time understanding how $200 billion of bad mortgages could have created such a falling-pyramid effect. It’s true that banks and brokers tried to make a silk purse out of a sow’s ear, with the aid of the ratings agencies, believing modern portfolio theory was the alchemist’s stone, but still, how did something so small become so big? The answer is that it didn’t. The $200 billion in liar’s loan mortgages were not magically, virally multiplied to infect every CDO and other alphabet-soup asset class to the extent of $700 billion or $1.5 trillion or any other number. In fact, because of various accounting and mark-to-model rules, the ultimate owners of a lot of this paper are going to make a tidy profit of it. It’s not bad, just not trusted. (That doesn‘t mean the US taxpayer will get the profit. The agencies tasked with buying and then selling the paper will manage to siphon off the gains to the insiders and interested parties).

The key is “not trusted.” Trust is everything. It’s everything in romance, commerce and finance. In a nutshell, the banks don’t trust one another today, perhaps projecting their own bad actions on others, and the old banker’s principle of “know your customer” is out the window. You can’t legislate trust. Critics are moaning about how the fat cats will only get fatter from the bailout while the little guy gets hosed, but anyone with a 401k plan is not complaining too loudly and in any case, the immediate losses or escape from losses is not the main event. The main event is the loss of trust in society at large, not just the financial sector. The social contract was broken, and it was broken in Washington. Raw naked capitalism may be good at setting optimal prices, but that’s about it. To say total lack of regulation is a necessary corollary of capitalism is to have read no economic history and to misread human nature.

And gosh, isn’t Washington where the rescue is coming from? If a poll were taken today asking the public whether it trusts Wall Street or Washington to “do the right thing,” the answer would be an overwhelming “no.” This is not a political statement (please don’t write) but rather an economic observation. Trust is essential to economic activity. You need trust to get new companies funded and trade conducted (think of letters of credit, not to mention open account trade). You need trust to let the gas tank in your car go down to one-quarter and not be filling it up every day just to be sure you can get it. You need trust to have a successful economy.

Observers in less developed countries note that the key reason they do not get growth is that they have no banking sector or capital markets.

Well, why not?

In large part because Tribe A doesn’t trust Tribe B.

We can see nothing that Washington or Wall Street can do this week to reverse the situation. In fact, more bad news is surely on the plate. The only thing that can save the US Dollar Outlook now is a Shock from elsewhere, like Germany. (Japan seems safe for the moment.) Aside from the mysterious yen, the US dollar is toast. This doesn’t mean take a short position and walk away. Prices never move in a straight line and after the giant move Friday, we must expect a corrective move on profit-taking and re-consideration…. But let’s start looking at foreign exchange charts on a weekly basis. Aside from the nice summer rally, we are back to the multi-year euro uptrend.

Bye for now

Barbara Rockefeller

need to buy euros at the best exchange rates visit IMS Foreign Exchange

We think the US Dollar might bounce up today

Foreign Exchange Currency Outlook : Not to sound like a broken record, but if the Fed and other central banks are intervening in the money markets to prop up liquidity, why are we not assuming they are also intervening in Foreign Exchange - or did intervene Sunday night but have now relaxed, and could come back to defend the dollar at a later time? We don’t have to assume intervention-the pattern of the dollar matches events pretty well-but let’s not assume the Fed and Treasury are taking an attitude of benign neglect. We assume the US dollar is firmly on their radar screen raising the question of where do they want it to go?

At a guess, they don’t have a level in mind but they must have a direction they prefer. If it’s up for the US dollar, that means confidence in the US is the top priority. If it’s down, that means the economy comes first (exports). It’s not even a toss-up this morning-confidence would surely be the winner.

More important is the issue of trust, which underlies all credit quality. You can’t force trust any more than you can legislate morality, and forcing trust is just what the central banks are now trying to do as they act as lenders of last resort.

In this matter, the US absolutely, positively has to win.

Any skepticism on the part of global investors would be a disaster for the US financial sector, including equities, as well as the US dollar exchange rate. Bloomberg reports that the tarnished image of the US from the need for bailouts can already be seen in the cost of insuring against US sovereign default, which rose to a record high yesterday.

“Benchmark 10-year credit-default swaps on Treasuries increased 4 basis points to 30, more than double those on government debt sold by Austria, Finland or Sweden, according to BNP Paribas SA.”

As we saw from the Treasury capital flow report, foreign investors were already withdrawing from the US in July. Today Bloomberg reports that “Sovereign-wealth funds invested just $900 million in new capital in U.S. and European financial institutions so far this quarter. That's down from $6.43 billion in the second quarter, $19.7 billion in the first and $28.5 billion in the final quarter of last year.” This data includes Europe, but the point in not invalidated since the US got the lion’s share.

It’s wrong to assume that the US can always issue its way out of trouble, and by "issue" we mean sell government paper at nice, low rates. We have always said that it’s over when the Treasury holds an auction and nobody comes. Right now risk aversion is so high that Treasuries are the safe haven of choice. But when the dust settles, it seems obvious that the newly increased risk of the US financial system (so many top firms needing to be rescued) means the US will soon have to pay a risk premium. In other words, yields must rise. Nobel winner Stiglitz, by the way, is noting the same thing we noted the other day about the Fed getting too much discretionary power—it’s not the rule of law applied to everyone when the Fed bails out AIG but declines to save Lehman. We understand it, but it’s still not the way things are supposed to work. Stiglitz thinks this adds to perception of higher sovereign risk in the US, and we agree.

Longer-run, the US system was not as robust as people thought, although we can’t fault the government for failing to be nimble, flexible and lightning fast. We may not like the form that the various rescues are taking, but problems are getting addressed and by credible, capable people. It took Japan ten years and it still hasn’t fully come out of its bank restructuring, but the US will do it faster and more thoroughly. The critics (like Buffett) were right-excess leverage was pure poison. Financial Markets are responding very fast, too, and at a guess, unless another shoe drops today, we could see things calm down. We keep mentioning a possible rise in equities because we imagine that will be the symbol of renewed risk appetite and exhaustion of panic. Panic is very hard to sustain, especially if fresh data comes that offers a glimmer of offset. Is the offset the swap lines?

Well, liquidity is everything today. And money leaving money market funds, which will almost certainly occur, probably means bank deposits, not the mattress or a hole in the back yard. Rising deposits at banks can’t be all bad—as long as another fund doesn’t fail.

Out of all this it’s hard to discover a US dollar forecast for any time horizon. We think the dollar might bounce up today, but don’t count on it. Longer-term forex outlook, like a week, we guess 1.4950 is not an unreasonable expectation.

Bye for Now

Barbara Rockefeller Forex Trading Reports

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Is there any possibility of a US Rate Cut?

Foreign Exchange Currency Outlook : The third week of every month is the big data week. See the WSJ calendar below. Tuesday and Wednesday are the heavy dates, with the Fed meeting on Tuesday the biggie and all activity grinding to a halt ahead of the 2:15 pm statement. Is there any possibility of a rate cut? The answer lies in whether the Fed thinks a marginal amount might be useful to an important player. At a guess, it widened the allowable collateral in its auctions to avoid lowering rates, but from the vantage point of Monday morning at 6 am, well before the bell, Tuesday at 2 pm is far away. Should stocks continue south as futures now indicate, the Fed might cut just to show it has a heart.
.
Realistically, the contracting financial sector and contracting credit is the same thing as a rate hike, so the Fed could find justification for a cut without straining too hard. Bloomberg reports that “futures on the Chicago Board of Trade soared to a 86 percent chance that the Fed will lower its 2 percent target rate for overnight lending between banks by a quarter-percentage point, compared with no chance a week ago.” This is reported in the context of the falling dollar.
Weirdly, a rate cut is not such a bad thing for the dollar in the current environment. It could signal flexibility, adaptability, and decisiveness, characteristics sorely lacking in Japan’s lost decade and also in Britain and Europe today, where governments and central banks can see nothing other than inflation under the bed and lurking in the closet.

Inflation is simply not the only important economic variable under the current circumstances. It may be the most important if you are a new central bank trying to earn your spurs, or if in the past you have botched managing inflation, and also in the grand scheme of things of macro theory, or at least some versions of maco theory.

But during a financial sector crisis that is sure to result in severely deflationary conditions, you need to throw out the rule book. Will we get deflation? You bet. Bank failures, falling house prices and contracting credit mean deflationary conditions, not to mention the bubble having been burst on commodity prices, especially oil. This doesn’t mean oil is going back to $30-40 (and if it does, we will all be eating a steady diet of only potatoes), but it does mean that $60-80 is not a silly forecast, nor is a rate cut by the Fed tomorrow.

Again, this doesn’t mean the dollar necessarily falls, although normally it would.

Context matters.

Until we find out what is going on, we advise clients to exit the market and stay out. Whether there was or is intervention or not, we need more information before we can judge whether the strong dollar scenario still has legs. We can make the argument either way. We think the factors favor the dollar hanging on, especially if there was intervention, but let’s face it, the market turmoil today is going to be just awful and we advise a policy of risk aversion in which cash is king.

If you are not in the market, you are taking no risk.

Bye for Now

Barbara Rockefeller

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A jump up in oil prices will see Traders Sell Dollars

Foreign Exchange Currency Outlook : We get some evidence of the mood of the consumer today with retail sales. Bloomberg reports that non-auto purchases probably fell 0.2% after a 0.4% gain the month before. We get the announcement at 8:30 this morning ET, with the forecast range a shockingly wide -0.6% to +0.6% in the Bloomberg survey.

We also get PPI for Aug, with the core PPI expected up only 0.2% after 0.7% in Aug. Then it’s the Reuters/University of Michigan consumer sentiment index, probably a bump up as gas prices fell, to 64 from 63 and the 18-year low of 56.4 in June.

We say the biggest threat to the Foreign Exchange Outlook is not Lehman, which will get resolved soon to little overall effect (if higher moral hazard), or the readings of the consumer’s mood these days, but rather than darn hurricane. So far the US Dollar is escaping a big effect from oil, which is remarkably tame under the circumstances, but that could change very fast if the damage to producing and refining is big. Oil has been the driver and seems likely to remain so. A jump up in oil prices to (say) $110 and more would be a watershed event for the dollar. We don’t expect it, but it’s a risk. The hurricane is 500 miles wide, Anything can happen. We hate it when market outcomes depend on the weather (which is why we never diversified into the ag commodities).

Overall, we remain a raging US dollar bull, with 1.3250 or 1.3000 in sight, but to repeat, anything can happen.

Bye For Now

Barbara Rockefeller

Buying Dollars? Best Exchange Rate - Visit IMS Foreign Exchange

the euro fall under the previous lows

Foreign Exchange Currency Outlook : We don’t know what will happen to Lehman or whether it has a lasting effect on the financial sector landscape, let alone the US dollar. It seems that after the market accepted the Fannie/ Freddie conservatorship on Sunday night and took the US Dollar up instead of down, the Foreign Exchange market can swallow just about anything these days.

And that leaves us with housing and oil as the key influences on the dollar. The housing problem is getting fixed. Maybe it’s not getting fixed well or in accordance with some of the principles we’d prefer to see, but action is being taken and the sense of Depression-era dread is lifting. Yes, foreclosures are still rising and additional banks will fail, but overall, the US economy is going to survive this crisis.

Oil is falling. We guess that Masters is right and the threat of regulatory action against speculators (if it’s fair to call indexers “speculators”) has caused their retreat. They will go play in some other sandbox for a while. Demand has fallen with greater elasticity than we thought, and OPEC has behaved in a good-citizen manner. The only wild card seems to be Russia and its desire to bully Europe, but we have few doubts that a change in supply chains is in the works. This is exactly the kind of thing at which the US excels, or used to, behind the scenes.

This Panglossian outlook requires that the euro fall under the previous lows (1.4057 yesterday and 1.4044 the day before) and thus maintain its downtrend. The worst of all possible outcomes is not a dollar rout on the Lehman news or any other news, but rather a sideways move that fails to confirm ongoing trendedness. We need to see this week’s lows get broken by the end of the day Friday and by now have the luxury of being able to sit out a little sideways action as long as it doesn’t last into the weekend.

Bye For Now

Barbara Rockefeller

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US dollar continuing upward

Foreign Exchange Currency Outlook : With hardly anyone noticing, the focus in the market has shifted from relative interest rates to growth, and from monetary policy to fiscal policy. Nobody can imagine that the issuance of Treasuries that must, by definition, accompany the new funding of Fannie and Freddie is neutral, and yet nobody seems to care very much about the US budget deficit. Academics and fear-mongers, including such luminaries as former Fed chairman Volcker, occasionally jump up to warn against impending doom from excessive Federal deficits, and yet the machine rolls on with foreigners, including sovereigns, willing to buy this paper.

Some are worried (again) that the US is becoming Japan, deflation-ridden and overspending to the point of a ratings level on a par with Botswana. But the US in not Japan if only because the consumer is different. We always joke that Americans can be more materialistic because we have the space to store Stuff (thank you, George Carlin) and the Japanese do not have that luxury, but the deeper reason is endless optimism compared to other cultures, including Japan and Europe. This is why we do not save…. We think we don’t have to. There will always be a windfall.

This business of the government saving the housing sector is a fine case in point. How else to look at it other than a windfall for the vast majority of homeowners, which is the vast majority of Americans? Mr. Paulson may have acted in large part to maintain the reputation of the US among foreign investors, but the net effect so far is the rescue of the guy in Scarsdale or Scottsdale as much as the Japanese pension fund. Paulson is right that we have to figure out whether the government should be in the housing business at all, but in the meanwhile, we have relief. Of course the problem is just pushed off into the future, but that’s where we like our problems to reside.

This may not be a good way to run a country or a government or a society, but for FX traders, the temporary solution is the only one that counts. Monsters may be lurking under the bed (mostly in the form of reserve diversification), but if big investors don’t care about looming budget deficits and are happy to see the trade deficit contract, who are we to call them short-sighted? The long run is a series of short runs, said Mr. Keynes, and when it comes to trading, he’s right. If the market chooses to see a systemic risk deferred, that’s what counts, even if other risks are just as big or bigger.

After all, we have known for two decades (since the S&L debacle) that the GSE’s made no sense and were run wrong. Now somebody else will be running that market, probably a whole batch of private players, and that works for the US system. It may not work elsewhere, but it works for the US. It’s important not to underestimate the relief that accompanies acknowledging that such a giant change can occur in the US, over $5 trillion, and not rattle the world. In any other country, the failure of an government organization the size of Freddie and Fannie would have caused stock market crashes, a currency crash, and heaven knows what else. In the US, we have embraced the change and do not fear the future, which is sure to be fraught with problems—-but never mind.

This is why we see the US dollar continuing upward. The US is weathering a storm. Foreign Exchange Traders like that.

Whoever started the dollar rally Sunday night deserves a lot of credit.

Bye For Now

Barbara Rockefeller

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