Friday July 13, 2007 - 10:44:20 GMT
Share This Story
Black Swan Capital - www.blackswantrading.com
Enjoy, but one-way bets deserve care
â€˘ The U.S. trade gap widened in May due to higher oil prices. But the deficit for other goods was nearly flat, reflecting foreign demand and a weaker dollar. (WSJ)
â€˘ After cooling for three straight months, [Chinaâ€™s] broad money M2 growth rebounded to 17.1% YoY, from 16.7% in May, still above the central bankâ€™s target (16%) for the year. (Morgan Stanley)
â€˘ Key Reports:
8:30a.m. June Import Prices. Expected: +0.7%. Previous: +0.9%.
8:30a.m. June Retail & Food Sales. Expected: +0.1%. Previous: +1.4%.
8:30a.m. June Retail & Food Sales, Ex-Autos. Expected: +0.3%. Previous: +1.3%.
10:00a.m. Mid-July Reuters/U Of Mich Sentiment Index. Expected: 86.0. Previous: 85.3.
10:00a.m. May Business Inventories: Expected: +0.3%. Previous: +0.4%.
â€śDerivatives are constructed on the basis of the theory of efficient markets. The fact that they have become so widely used would seem to imply that the theory of efficient markets is validâ€¦Beta, gamma, delta are, for the most part, just Greek letters to me.â€ť
FX Trading â€“ Enjoy, but one-way bets deserve care
Is the market efficient? If it is, why play? And if it isnâ€™t efficient and if Mr. Sorosâ€™ contention that derivatives are based on the theory of efficient marketsâ€”otherwise the math wouldnâ€™t ever make senseâ€”why do so many people trust derivatives?
We would suggest the answer is lies once again in human nature (not mathematics): Greed validated by price action leads to more money being thrown onto the price trend. And because currencies â€śfree-float,â€ť based on supply and demand that can flow from extremely subjective views, the degree of potential instability in the currency market is â€ścumulativeâ€ť as these self-reinforcing trend followers grow over time.
A scenario that could invalidate the consensus might go something like this: We all hate the dollar. We all keep selling the dollar. And in its place, we all keep buying the key dollar alternative, the euro. But sooner or later we witness some type of debacle on the derivatives front. And in this scenario, this debacle leads to much lower global growth, maybe even recession. And in this environment it becomes painfully apparent that European finance, thanks to the still live and well welfare state, comes unglued as a common currency they have, but synchronized fiscal policies they have not.
And more to that point, a point made by GaveKal Researchâ€”the money being recycled from Asia into the US is to a much larger degree being funneled into consumer spending, whereas that from Asian sent to Europe goes more toward government spending.
Two points here: One, consumer spending no matter how seemingly â€śdrunken sailor-likeâ€ť will always provide greater overall efficiencies to an economy than anything the government does over time. And two, even though the US is accused continually of losing control of its fiscal policy (I plead guilty to leveling said charge and it may be true), the relative size of its debt as a percentage of GDP has remained fairly stable since 1990. The same cannot be said of European governments. They have all increased, and some dramatically.
So, if a derivatives debacle were to slow global growth, which is now not in the cards, and Asia started using its excess reserves to bolster its domestic market in the face of declining Western demand, maybe the US does better on a relative basis. I this sounds very counterintuitive given that Asia is holding so many US bonds. But maybe Mr. US Consumer will have a greater wherewithal to save than the experts expect, making up for the lost Asian flows. After all, Mr. US Consumer continually confounds the experts on their ability to spend.
Europe on the other hand already has relatively high savings rates, at least compared to the US. But European governments have no place to hide in the face of declining money flow which supports spending to support the welfare state. New entrants to the EU will want their fair share, and in this environment, out of control spending countries such as Italy, who have mooched off the excellent EU credit rating, may be in store for real trouble. Things have a way of coming out in the wash over time.
So, we can all feel good if weâ€™ve been riding the dollar down, smug in our assessment that all things financial in the US are going southâ€”Europe is the place to be. Itâ€™s a heady one-way bet that may prove true. But, weâ€™ve noticed over the years that markets have a way of fooling those making smug one-way bets.
Itâ€™s something to ponder, as you enjoy your weekend.
DXC Chart Weekly
John Ross and I want to thank you for being a reader of Currency Currents. Take care.
Forex Trading News
Daily Forex Market News
Forex news reports can be found on the forex research
headlines page below. Here you will find real-time forex market news reports
provided by respected contributors of currency trading information. Daily forex
market news, weekly forex research and monthly forex news features can be found
Real-time forex market news reports and features providing
other currency trading information can be accessed by clicking on any of the
headlines below. At the top of the forex blog page you will find the latest
forex trading information. Scroll down the page if you are looking for less
recent currency trading information. Scroll to the bottom of fx blog headlines
and click on the link for past reports on forex. Currency world news reports
from previous years can be found on the left sidebar under "FX Archives."