Monday, January 19, 2009


Another day, another bailout. This time it's on the east side of the Atlantic, where the UK authorities have organized another capital injection/loan guarantee program for (some of) Britain's troubled banks.

Last Friday, the feel-good rally in equities and sterling was rudely interrupted by a late-session swoon by some of the UK banks deemed most vulnerable, a turn of events sufficiently troubling that "Flash" Gordon Brown and his Darling sidekick have organized another bailout.

Flash Gordon may have saved the world with his earlier bailout, but he didn't manage to save RBS, still reeling from its catastrophic acquisition of ABN Amro little more than a year ago. Not even Ming the Merciless could lose £28 billion in a single year, but RBS managed the trick. The good news for RBS longs is that there is good long-term support on the chart 28p below the current price.
At the same time, the Bank of England has been given the power to buy turds...err...assets from banks to help them shore up their balance sheets. Roll on quantitative easing, UK style! The question is how low Merv and co. might want to take rates in conjunciton with any asset purchases. Macro Man has a sneaky suspicion that they'll be reticent to trim below 1%, though that hasn't stopped the short sterling strip from rallying a bit this morning.

Sterling the currency has come under a bit of pressure, however, as the market engages in a knee-jerk "sell the quant easing currency" Pavlovian response. EUR/GBP has traded up 2p from Friday's lows, and GBP/USD has shrugged off early-session strength.

But surely we've seen this movie before? The market had a pop at the dollar (for whatever reason) in December as the Fed moved to quatitative easing....and the buck has subsequently retraced most of those losses.

While Macro Man comes second to no man in his disdain for Flash Gordon, in his view the UK's troubles are pretty fully priced into the currency markets. Macro Man calculates fair value for EUR/GBP at roughly .75, making the pound some 20% undervalued against its European neighbours. While that is not necessarily a catalyst for an immediate sterling rally, EUR/USD in 2008 demonstrated what can happen when the valuation rubber band stretches too far.

So Macro Man is shockingly somewhat constructive on sterling in the medium term, though there can of course be plnety of short-term setbacks.

In the meantime, Macro Man looks forward to Flash Gordon claiming victory with his latest initiative. There is, however, no word yet on whether he will change the national anthem from "God Save the Queen" to something more up-top-date from Queen:


Adrem said...

Brown’s latest bailout for the banks is unavailing. The banks are broken. The question for banks is survival when already they are loaded with toxic material and they are asked to go out and lend in a deepening recession. The real problem is that the UK economy is dysfunctional. It has a large and persistent trade deficit. It's not paying its way and these bank bail-outs are as remote from solving that problem as London from Siberia. Indeed they will probably make it worse. If there is not a Sterling crisis later sometime this year it will be a miracle.

Cortex said...

For sanity reasons, I would appreciate if someone would take the time to explain what mechanisms we can rely on for the prevention of a world-wide, domino-style, bank default when governments have intervened away all assets. Not being funny, I have yet to understand what will make this situation improve and become manageable.

Yohay said...

In the meantime, the pound is losing ground everywhere...

Anonymous said...

on weekly charts the msci emerging market index has been tracking the euro, looks like solidly going back 5 years...

barrons did a large amount of discussion on europe from manager zulauf, he said he would short hungary at this point, due to it having the most liquidity of the eastern europeans

who were those guys last nite bidding ES fully 20 points higher than it is printing now, and has anybody else noticed the euro always gaps up sunday nites along with gold and silver

punt that american football, baby!

dblwyo said...

Since this is the Inaugural week and the markets are closed today maybe you get an appropriate adult beverage and some balcony time to do a little prognosticating on the outlook. You’ve actually been fairly clear and my own assessments are in line with yours; to wit, the economy’s in the tank, headed farther down and that’s not yet fully priced.
Now with all that said it seems to me that the LEH fiasco (which could/should have been triggered by any key event) caused a state change in perceptions and valuations. Here’s my take:
With that in mind it seems to me that after the market reached a new level we’ve basically been trapped in a trading-range box and now the question is what will be go-forward earnings and PEs - both of which I anticipate to be abysmal.
Thoughts and reactions ?

Anonymous said...

perhaps the Queen classic, "Another One Bites The Dust" may be appropriate...


Brian said...


I've noticed that Sunday gap effect as well, much more pronounced in the past year. Baring a weekend news bombshell, more often than not the USD gaps down and risk assets gap up. Shorting this gap is typically quite profitable.

Anonymous said...

Interesting post, as usual. I suppose it's safe to say that you don't buy Professor Buiter's argument that London will turn into Reykjavik-on-the-Thames unless the UK joins the Euro?
Admittedly, the eye-watering monetary policy of J.C. Trichet probably isn't what the UK economy needs right now. But if sterling really does collapse you may find yourself unexpectedly wishing for some 'price stability is the only needle on our compass point'.

Macro Man said...

dbl, yes it has been quite uninteresting. I am a natural buyer of options, so I count it as a success that I have only lost a tiny amount in my equity book from November onwards....and all of that was in my ill-fated tactical equity purchase at the beginning of the month that started so well...

deac, Brian...yes, people love selling USD on the Wellington open for some reason. Perhaps its a bad habit that people fell into when the USD went down every week like clockwork, but I have to confess that it is not an obvious thing to do, for me at least.

And yes, I disagree wholeheartedly with M. Buiter...."one size fits all" monetary policy works great when everyone is the same size (or, to the point, has a similar economy at similar points on the economic cycle.) If you differ from the mean (or, more to the point, from Germany), you end up with a suboptimal monetary policy...I mean, even more suboptimal than when the authorities actually bother to try to do the right thing.

Rumours are swirling (probably false, but nevertheless bordering on the edge of credulity) that Ireland is contemplating an exit strategy. It's hard to see the UK swallowing a Germano-centric policy terribly easily.

In any event, I think we've kind of had our sterling crisis. It's just that in the middle of everything else, it's sort of slipped under the radar...

Greg said...

The central economic planners in the west are having the same level of success as all other central planners have throughout history. China, are you listening? This time will NOT be different.

The mega-banks are all insolvent, and have been for quite a while. Efforts to lower interest rates and/or inject capital were always destined to fail -- in most cases, the size of the losses were much bigger than the US Treasury can realistically absorb.

Lots of people started wondering about the US's AAA rating after it kinda-sorta but not exactly backed FNMA/FHLMC debt. That was "only" $14 trillion in assets.

Citigroup (just to pick on them) has $27 trillion in assets. The US government doesn't have a prayer in bailing Citi out even if it were a good idea (and it isn't).

I know assets don't equal losses, but since most mega-banks had on the same trades and the same (excessive) leverage, loss sizes and assets are well correlated.

RBS, Citi, BofA, are all finished. Rather than socializing the losses, smart regulators would have been working to insulate the "bank" parts (payment and transaction systems) from the rest of the mess -- so the inevitable collapse wouldn't cause bigger problems.

Instead, they listened to Wall Street -- the same geniuses that couldn't see the problem coming even though it was only a few seats down on their trading desk.

I wonder if Obama can possibly live up to all the hype around him, but I really hope he doesn't continue the cronyism that caused the collapse in the first place and made the "resolution" much worse than it had to be.

I fear the Bernanke/Paulson medicine will turn out to be far worse than the disease

Cortex said...

Oi MM! What do you predict will best describe the nadir of this cycle? Are we all just hoping to see some divine mean reversal mechanism enter the stage and start a bargain hunting frenzy? If so: what asset classes should I be staring at?