Monday, September 22, 2008
Macro Man has spent the weekend in Madrid, which is salubrious an environ as any other in which to digest the momentous developments of the past week. While things do seem to be changing at the speed of light, he does have a few thoughts about where markets go from here.
The first and perhaps most important of these is that global equities remain in a bear market. Global growth continues to slow and earnings expectations continue to look overambitious in many markets. One little note that flew around the market on Friday night highlighted that the stunning turnaround on Thursday and Friday simply took many assets back to their closing levels of the previous week.
While Macro Man has long thought that some sort of fiscal solution was necessary to end the current crisis, it is by no means a sufficient solution to kickstart a new bull run. Ultimately, the market needs that greatest of all healers, time, to do its thing before Macro Man will be ready to contemplate strategic longs in stocks.
Between now and then rests what is likely to be a hard slog of treacherous trading conditions. Fortunately, we're all get used to trading those kinds of markets, as "treacherous conditions" is a pretty apt description of the last year or so.
That having been said, there remains ample scope for a further tactical rally within the broader bear market. Whether such a rally actually materializes is, of course, another question; frankly, Macro Man isn't sure. His portfolio risk has been reduced accordingly, as he wouldn't be surprised to see equities end the coming week up five eprcent or down five percent.
Such short equity risk that he does retain remains concentrated in Europe. While the ECB's intransigence in the face of changing circumstances drew a surprising number of defenders in the comment section of Friday's post, Macro Man is frankly happy for it to continue; equity shorts are always easier to run in the face of unforgiving monetary policy.
To be sure, the rising tumult of regulatory backlash against short-sellers and hedge funds, which resembles nothing so much as a cartoon mob armed with torches and pitchforks, makes Macro Man glad that he does not deal in single name securities. The squeeze potential in single names, both from regulatory diktat and ongoing issues surrounding Lehman-facing trades, appears to be substantial.
It looks increasingly likely that the market will have another go at the dollar. It is pretty hard to construe the implosion of the US financial system and socialization of the associated costs as anything but a negative for the dollar. With central bank swap agreements in place, foreign banks may now be able to borrow dollars again, rather than being forced to purchase them in the open market. Moreover, the market may retain a desire to price in a small chance of additional Fed cuts, though if the SPX rallies another 100 points then hikes will likely re-emerge in short-end pricing.
You'd have to think that the Paulson Plan should eventually steepen the US yield curve, though perhaps not as much as in previous cycles. A steeper curve is clearly beneficial for banks, but if the US wants to kick-start prudent mortgage borrowing again, having long-term rates at too high a level will be a negative. In any event, Macro Man lives in hope that markets re-introduce a term premium into the US government and swap curves.
Ultimately, the market's mision is to get through the end of the year alive. While last week saw the price of many major financial indicators largely unchanged, Macro Man wouldn't be surprised if there was a large pile of money lost in the process. Although circumstances can obviously change, from Macro Man's perch the next few months are likely to be all about opportunistic trading, taking the other side of panicked pricing a la the RMB one year forwards last week. This naturally lends itself to a lower risk budget than normal; and hey, if last week is anything to judge by, you're likely to be taking more risk than you think when you put on a position.