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Monday December 6, 2010 - 18:11:52 GMT
Black Swan Capital - www.blackswantrading.com

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Goldilocks is alive and well Down Under ... but ...

A couple of weeks ago we laid out the case for a major top being in place in the Australian dollar.  Could we be very wrong?  You bet.  And the reason would be stock markets blow-off again on a doubling-down of QE2 and continued optimism China will keep the music playing.  A plausible bet indeed!  But…

We’ve been asked why so bearish on Aussie?  Short answer: It’s in our nature.  We are leery about the Aussie because everyone else seems to love it.  That’s likely not a very “good” reason, but likely a real reason based on our limbic system reaction to anything others are in love with.  It can be safely said that Black Swan Capital very much believes in the old Groucho Marx line, “Any club that would want me as a Member we wouldn’t want to join.”  Maybe there is more than that. Let’s see…

To add some “rationality” to our defense—assuming rationality in a world where fundamentals and technical factors are so ephemeral maybe a stretch, but that’s a story for another day -- first and foremost from the rational side is the fact that the Australian dollar is the key global risk currency among the major pairs.  And now it seems to be trading very far ahead of comparable risk assets ...

Aussie-USD (red) vs. S&P 500 Index (blue) vs. Chinese stocks (black) Daily:  Note how far and fast these price indices plunged after the credit crunch, validating the risk-driven component of each. Also note the Aussie dollar back then lagged the turn south in both the S&P 500 and Chinese stocks.

[Click here to view PDF with charts]

Goldilocks is alive and well and dwelling in an extremely overvalued house down under -- credit crunch?  Heck, what credit crunch? [40% overvaluation is a number the estimable Jeremy Grantham is bantering about.  And he is pretty smart guy to say the least.]

[Click here to view PDF with charts]

Source: DebtDeflation.com

Of course, the reason why Goldilocks is living large is quite clear -- Australian Exports to China: Can you say parabolic?  I knew you could!

[Click here to view PDF with charts]

Thus, why we often refer to Australia as, a “Chinese satellite country.”  Australia’s trade surplus was A$2.65 billion in October, up from A$1.84 billion in September.

Tomorrow (tonight) we get the Reserve Bank of Australia’s (RBA) interest rate decision of December.  But the RBA has already signaled rates won’t be going up at this meeting.   The economy is already starting to slow, they say; which is clear from some recent stats:

  • Retail Sales down 1.1% in October
  • Service Index fell 4.5 points to 46.2 in November

I guess we could worry about slight changes in the Australian economic fundamentals till the cow comes home -- it may tell us growth momentum is slowing.  But in reality the commodities complex tells us what we need to know.  And of that, copper seems the key (by the way Goldman Sachs thinks copper is a buy; if so, the Aussie is a buy.  But does anyone actually trust Goldman Sachs isn’t talking the other side again to serve its book?  Just a thought! J). 

If Goldman is right about copper, then we are wrong about the Australian dollar—at least over the next few weeks:

Copper futures (black) and Aussie-USD (red):

[Click here to view PDF with charts]

And if Goldman is right about copper, the S&P looks like it makes a new high…maybe 1=5 equality level near 1,300 would be a good round number target.

Watching SPU for proof… Using our “trusty” Elliott Wave count, we think it is plausible to suggest we are in Wave 5 of what we believe is a rally in a broader multi-year bear market…

[Click here to view PDF with charts]

But…and for those of you who have used Elliott, know there is always a “but” in everything one does (though a major criticism of Elliott, and quite frustrating at times, we like Elliott and use it; though far from experts are we).  Thus, our caveat…but, looking at the chart, if we have our “1” in the right place, and the rest is correct, wave 1=5 equality target carries the S&P to 1302. 

If risk assets, stocks, have topped, then the Aussie has topped.

Bottom line:

It all boils down to risk. So choose your poison.  Goldilocks continues to gorge down under and the Aussie goes to 1.10 or possibly higher (plausible in a world where traders value liquidity as a simplistic lead factor for growth) or Mr. Market decides now is the time for a little risk Christmas gift that could plausibly come in many different packages:

    1. German says “game over”
    2. Sovereign debt problems feed into Eurozone banks big time ... for a change
    3. China slows more than expected
    4. US double-dip expectations rise
    5. Municipal bond market crisis
    6. Junk bond market crisis
    7. North Korea lobs more shells into South Korea

Technically, 0.9955 down to 0.9650 area look like key levels…stay tuned.

[Click here to view PDF with charts]

 

Regards,

Jack Crooks

Black Swan Capital

www.blackswantrading.com

 

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