Who would you rather be?

Whether it's crisis fatigue, an Indian summer in the UK (during the daytime at least), or just plain myopia, markets are happy and risk assets are trading on the front foot this week. It's crunch time in terms of ABCP roll-overs, but markets seem to be taking the attitude that "that's for those money market blokes to worrry about; nothing to do with us." Nothing, that is, until bonus time, when a number of people may find themselves the recipient of a "Number 3 all over" haircut.

Both in the real world and in finance, the last few weeks and months have begun to seperate the wheat from the chaff. Consider the variant fortunes of the following persons. Who would you rather be?

* Shinzo Abe, Prime Minister of Japan. Actually, not any more. Abe has committed political seppuku after the economic and reform momentum of Koizumi has ground to screeching halt. Indeed, the only thing that seems to have increased under his watch is political scandal. The likely replacement as PM would appear to be Taro Aso, LDP Secretary General. Cue the Dukes of Hazzard theme song ("Just a good old boy/Never meanin' no harm/Beats all you ever saw/Been in trouble with the law/Since the day he was born.") It seems safe to assume that Japanese politics is switching back towards the bad old days of pork barrel spending.

* The new graduate intake at Goldman Sachs. A vicious rumour is circulating around the City that the new grad intake at Goldman have all been funnelled into Operations. Imagine the ignominy: expecting to take their first steps towards becoming Masters of the Universe, these poor souls now find themselves chasing third-party valuations and sending SWIFT messages. It's almost bad enough to make them wish they'd taken that job at Lehman.....

*Mohammed El-Erian. After just two years at Harvard, Mr. El-Erian has returned to the fold at PIMCO. While Mr. El-Erian claims that he's left Harvard for family reasons, the fact that he's been named co-CEO and co-CIO is no doubt a coincidence. Not a bad round-trip, is it? Harvard, meanwhile, is now left looking for a CIO for the second time in two years. If anyone from Harvard's administration is reading, Macro Man would be happy to entertain any offers....

Elsewhere, the dollar bear market appears to coalescing even faster than Macro Man had envisaged. Everyone in the known investment universe now seems to be bearish, though Macro Man's investigations suggest that positioning (at least against non-EM currencies) remains light. If this is the case, then pullbacks should be relatively limited. 80 in the DXY is an obvious level that the market can key on.

If the "incipient dollar down-bubble" thesis is correct, the market will end up chasing it after failing to get filled on hopeful dollar sell orders over the next week or so. Stay tuned.

Yesterday's US trade data came out broadly in line and continued to suggest that prior dollar weakness is having an impact. In both nominal and real terms, exports continue to outstrip imports by a healthy margin. It may be a coincidence that Ben Bernanke spoke on global imbalances yesterday, but his comments on the US current account deficit ("unsustainable") are reminiscent of Fed comments in Q3/Q4 2004, a period which saw an aggressive weakening of the buck.While the "savings glut" explanation may have a degree of truth to it- FX reserve accumulators have clearly had an excess demand for dollar assets- one has to query whether the same will hold true in the future. The evolution of SWFs and shift towards a more proft-oriented investment strategy would certainly argue for an asset allocation with a lower dollar weighting than that currently held by China or even Russia; a clear renewal of the dollar downtrend may make VIG, RIG, et al. even less enthused about holding dollar assets. And if Japan ever does revamp its reserve management, as has been suggested recently, one would imgaine that they'd have a few bucks to go as well.

What's interesting to note is that China's trade with Europe is taking on an increasingly prominent role, which might argue in favour of upping the euro's weight in China's FX reserves. China now exports more to Europe than to the US, and the level of the trade surplus is now almost as high with Europe as with the US. At current levels, the monthly trade surplus with Europe ($13.7 billion) must be approaching the monthly allocation of FX reserves into European currencies.

The P/L has been hit by a change in the pricing model for the Powerball strip. While the higher strikes have declined in value quite substantially, the lowest strike has actually increased in value. Macro Man has the quants on the case, but for now it's costing him a pretty penny....

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Anonymous
admin
September 12, 2007 at 3:22 PM ×

3 q's for MM

1) What's the "incipient dollar down-bubble thesis"?

2) Is is is the same as "dollar weakness forming the next financial bubble"?

3) Are you USD bearish and since when?

Regards,

FR

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Macro Man
admin
September 12, 2007 at 3:26 PM ×

1) See #2

2) Yes

3) The idea has gradually formed over last two weeks as it became evident that the Fed was going to throw at least a bone to holders of "free money" credit turds.

I've generally liked the buck for most of the last couple of years, so if even I cannot find a reason to buy, I can only assume that the "dollar going down forever" crowd must be frothing at the mouth, yet under-positioned....

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Anonymous
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September 12, 2007 at 4:29 PM ×

Macro Man,

We would be interested but we don't know who you are!

Drew Faustus
Harvard

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Macro Man
admin
September 12, 2007 at 4:44 PM ×

Ah, Mr. Faustus. I look forward to the job spec on my email!

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Anonymous
admin
September 12, 2007 at 5:28 PM ×

That's Ms Faust to you MM.

Drew Faust
Havard (with Boston accent)

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Anonymous
admin
September 12, 2007 at 6:03 PM ×

MM -- to the extent the rise in China's surplus with europe hinges on rmb weakness stemming from the $ peg, China cannot really increase its euro allocation w/o breaking the chain that produced its surplus vis a vis europe. Or perhaps it could, but the net effect of increasing its euro holdings and still pegging would be more $/ rmb weakness ...

china's role in the global economy is increasingly to earn a surplus selling stuff to europe that it lends to the US, making up for the United States deficit with many other regions of the world.

using the us data (since the chinese data is distorted by the HK effect), China's likely financing of the US now tops its trade surplus with the US.

p.s. glad to welcome you to the dollar bear club. our membership is generally pretty happy these days; the last year and a half have been good for us

bsetser

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Macro Man
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September 12, 2007 at 6:46 PM ×

Doh! Clearly I'm not a Harvard alum, then...

Brad, I don't see why China couldn't increase its euro weighting. In fact, unless SAFE does increase its euro weighting, than China will be buying fewer euros than it sells (via the trade channel), and the euro might actually go down. Surely we can't have that happen!

PS Not all dollar bears have been crowing- those short USD/JPY are still out of pocket, net of carry! ;)

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OldVet
admin
September 12, 2007 at 7:33 PM ×

Swedish, Danish, and Norwegian krona are doing fine, thanks, as is Swiss franc. As you know better than I. I'm happy with real money bets on same, as a matter of both policy and as an investor. Policy? None has really worked to overcome the greed of borrowers and lenders in the US, or divert investment to more productive sectors.

The only policy that seems to work is the brute force of a major FX dislocation. Ergo, happy Bears.

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Corey
admin
September 12, 2007 at 7:40 PM ×

With regards to bearish dollar implications near term, might I mention the bullish posture in the gold market. After bottoming at $650, I mentioned the chance of a 20%-25% run to upper 700s lower 800s into October as likely...we have yet to see some of the really big moves happen. If history repeats here (or rhymes), then further strength into October should give way to a small consolidation period into late November, follwed by the final big move into early 2008. We're talking about a move over $1,000, which should preceed massive dollar weakness in the spring of '08. With everyone looking for the Yen to go way up, the market to go way down, etc., I'm looking at gold saying this is the best time in a long time to be long.

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Anonymous
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September 12, 2007 at 7:57 PM ×

Corey,
How much of this move in gold to
$1k is predicated on 100bps in Fed Funds cuts?
Just wondering if they give us 50bps and gold and the rest of the commod complex goes nuts (and USD down) and then they have a "rethink" about marching down the Greenspan hill again.
RJ

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Anonymous
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September 12, 2007 at 8:01 PM ×

And I meant to write 100bps by year end.
RJ

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Corey
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September 12, 2007 at 8:10 PM ×

RJ,

Let's start with a trading thought, sell hard assets on a "disappointing" 25 bps move next Tuesday, then buy them all back...let me explain.

Interestingly enough, the Fed need not cut at all for gold to move higher. In fact, after a digestion of the recent credit mess, a rise in rates (esp. on the long end) would induce a period of monetary velocity that has been "baked in the cake" due to all the prior easings and massive liquidity already in the system. ANY cut here, even 25 bps is probably wrong and will only exacerbate the accelerating inflation problem. Also, this is a worldwide phenomenon, not just US. So, in dollar terms, gold will go much higher than the world, but the world will be contending with the same issues.

The Fed might even prefer to raise rates, but they won't due to US housing. Interesting times ahead.

Hope that helps.

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Macro Man
admin
September 12, 2007 at 8:25 PM ×

While I fall firmly in the "barbarous relic" camp with respect to gold, I concur with much of what Corey has written here. The strength of gold over the past couple of weeks was one of the things that encouraged me to question the dollar, as my belief is that gold reflects a mixture of market dollar bearishness and liquidity. Market bearish dollars, and has plenty of liquidity to play with? Then gold goes up.

An easing/easing cycle would provide unnecessary financial market liquidity (while it may be "necessary" for money markets, it certainly is not so for others), which would be gas on the fire of the nascent dollar down bubble.

The only issue with gold is one of carry, though if you're playing for an explosive move to 1000 then I suppose it's a minor consideration....

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Anonymous
admin
September 12, 2007 at 8:36 PM ×

Corey,
Agreed.
That's what I was trying to tease out of you by asking the question.
RJ

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Anonymous
admin
September 13, 2007 at 12:10 AM ×

"I don't see why SAFE couldn't increase its euro weighting"

hmmm -- you clearly are long euro now, if you want China to buy even more euros as a point in time when the market doesn't like the dollar particularly.

my take on the past year is a bit different than yours -- i think China has been a net $ positive, taking the surplus it earns from europe (along with capital inflows) from asia and adding disproportionately to its $ holdings in order to limit downward pressure on the $.

cheers
bsetser

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