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Wednesday June 7, 2006 - 10:26:29 GMT
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US vs Euro area...

“Since 1900, there has never been a three years period during which copper rose at an annual compound rate of close to 70%! Moreover, whenever the 3 year annual compound gain exceeded about 20%, the subsequent compound annual rate of change was between minus 15% and minus 20%. So, the likelihood that we have built some kind of bubble high - not only in copper but in all industrial commodities - is quite high!”

Marc Faber

FX Trading

Let’s say the European Central Bank jacks up rates by 25 basis points…

“A week ahead of the ECB Council meeting in Madrid, the ECB Shadow Council yesterday voted to raise the refi rate by 25bp.

"Since its inception in 2002, the Shadow Council majority vote has deviated from the subsequent ECB decision on only two occasions. This is remarkable because this is a heterogeneous group of 18 economists from academia, think tanks and financial institutions who vote on what they think the ECB should do rather than trying to forecast the ECB’s decision the following week,” writes Joachim Fels of Morgan Stanley.

…and for grins, let’s say Mr. Bernanke and Co. decide to do the same when they meet on June 28th.

That would leave the yield differential favoring the dollar the same as it is today. (We are having some fun with math this morning.)

Let’s look at some other metrics courtesy of The Economist magazine:

GDP Growth 2006 Fcst

US 3.4%
Euro area 2.1%

Unemployment rate

US 4.7%
Euro area 8.1%


US +3.8%
Euro area +2.4%

Consume Prices
US +3.5%
Euro area +2.5%

Retail Sales

US +6.2%
Euro area -0.2%

10-yr Gov’t Bonds Yield

US 5.14%
Euro area 3.90%

Hmmm… It appears the US still stacks up quite nicely to the “Euro area.” On the numbers alone, assuming we had no other biases (impossible I know), it seems the US has greater scope for central bank tightening than the “Euro area.”

But we know numbers alone ain’t always what their stacked up to be; that’s the excruciating part of this game.

“People make decisions irrationally, driven by fear, greed, and hubris. These gyrating human emotions exhibited by market participants are not captured at all by computer models and mathematical theorems,” writs F.J. Chu in his little known classic, Paradigm Lost.

The background kicker could be the wild card for the dollar, even if the numbers don’t matter—a continued sell off in global markets.

Though Andy Xie of Morgan Stanley hasn’t been exactly stellar on his China calls of late (but neither have we, as a slumping China on financial boom-bust has been a frontal lobe theme of ours for about two years; we hold out hope that we weren’t “wrong,” just early), he is always an interesting read. He was especially interesting yesterday touting a theme that could lead to some safe haven flow back into Mr. Greenback:

“The four-year global growth boom and three-year bull market may be over. The liquidity boom has been manufacturing strong growth through asset inflation (property, credit spreads, commodities, and emerging market stocks). As inflation picks up, the liquidity boom and asset inflation will draw to a close.

“Massive fund flows from the less experienced retail investors into hot-concept funds (for example, BRIC, commodity, India, China) have caused a global financial mania in the past five quarters. The mania has formed in an environment of sluggish global liquidity. Gravity has stopped the momentum, and we think the unwinding is likely to continue.

“Inflationary pressure in the US and other OECD economies makes a cyclical bear market likely beyond the ongoing unwinding. Their central banks will tighten further and keep rates higher for longer than expected. Global liquidity could decline, causing risk asset valuations to contact.

“As decade-long Anglo-Saxon consumption peters out, a secular bear market is possible. Asia is not ready to take over from the US as the global growth engine. China changing its development model to boost household consumption could be sufficient to support a bull market in Asia. But the reforms necessary to change the model may take five years or longer.

“A financial hard landing is the most likely ending to the current bull market, in my view. An economic soft landing, however, is possible. A likely commodity burst would offer a tax cut to most economies in the world, while the commodity exporters sustain their demand with savings from the boom.”

Stay tuned—it isn’t easy out there, but it is interesting.

Jack Crooks, Black Swan Capital
Black Swan Subscription-based Service


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