“Neither a borrower, nor a lender be; for loan oft loses both itself and friend.”
That quote, of course, comes from Hamlet – Shakespeare’s longest tragedy. It’s a story that continues to be interpreted from many perspectives, despite it being over 400 years old.
Wall Street is all about storytelling. The story of the US Dollar serving as the world’s said “reserve currency” is roughly 1/10th of Hamlet’s in age. Since President Nixon abandoned the Gold Standard in 1971, plenty a leveraged loan banker has been paid to create limitless credit on the Buck’s back. Those bankers, by the way, include the central banking kind over at the US Federal Reserve.
Now we can all wake-up this morning and inspire something along the lines of Claudius’ murderous plot, or we can look at the US Dollar hitting new lows this morning for what it is – a credibility crisis that has gone global. One that’s been proactively predictable, for months…
One of the Harvard economic historians whom I respect, Ken Rogoff (former Chief Economist at the International Monetary Fund), said in a Bloomberg interview last week that, “If the Obama Administration fails to rein in the long-term budget deficits, the dollar is set to decline for decades.”
As in all Shakespearean tragedies, there are multiple plots. The story of the Burning Buck has many. Rogoff’s basic point is grounded in US Fiscal Policy, but there are many others. This blade has already been poisoned. It is doused in US Debt.
Since Friday, here are The New Realities that have knocked the US Dollar down to fresh year-to-date lows:
1. The Fed’s Balance Sheet expanded for the 4th consecutive week to $2.09T (that’s a “T” as in TRILLION; up $1.2T year-over-year!)
2. The United Nations is calling for a new Breton Woods agreement this morning (i.e. a new world currency reserve system)
3. The Gold price has shot above $1006/oz; meanwhile the US Federal Reserve keeps monetizing its debt and maintains ZERO interest rates
Last week, I started to get antsy about the US Dollar threatening to breakout from an immediate term TRADE perspective. The two-day move that got the US Dollar Index above my critical breakout line of $78.52 didn’t hold however. Now we’re right back to digging Ophelia’s grave. The US Dollar is once again broken across all 3 of our investment durations (TRADE, TREND and TAIL). Importantly, the breakdown through the $78 line has only been sustained 1 time in the last 38 years – in Q3 of 2008, right before we crashed.
The difference between the US stock market understanding that $150/barrel oil was bad for 70% of America’s GDP (Consumer Spending) last year, and this year’s setup is that there is that other dominating global macro factor accelerating – Chinese demand.
In sharp contrast to the Q3/Q4 2008 slowdown in China associated with the Olympics, this year we are seeing reported Chinese growth rip the rims right off of those Olympic basketball court hinges. Overnight, Chinese auto sales were reported up huge. At +90% year-over-year growth, that was almost 900,000 cars they sold. I know the “China is crashing” crowd wants to believe that China is making up these numbers. I wonder what Horatio would think of these tales…
On Friday, the Chinese also expanded both institutional fund flows and liquidity for foreign investors. Rather than having to be locked up for 1-year, China is allowing for 3-month liquidity on foreign funds and also expanding the size of funds by 20-25%. This, of course, is good for the fledgling Chinese stock market. Don’t forget that 60% of daily trading there is still retail!
Chinese stocks closed up for the 5th consecutive day, adding another +1.7% to the Shanghai Composite’s impressive YTD gain of +61%. We’re long the less volatile H-shares via the EWH (Hong Kong ETF). The Hang Seng took the Chinese auto sales news very kindly and shot up another +2.1% last night, taking it within 5 points of its YTD high. I don’t think Asia’s bull market in equities could care less about what our squirrel hunter extraordinaire, Timmy Geithner, says about America being the world’s financial “reserve” leader by the way.
After the long weekend, no matter where you go this morning, here we are. The two global macro factors that matter most remain:
1. Chinese Demand
2. The US Dollar
However tragic it may feel to hear that the world doesn’t look at America or her currency as it once did, it’s time to accept this for what it is. America’s Hamlet has been pierced by the poisoned blade of leverage. We’ve seen this fatal fencing match play out in slow motion. This is no time to pretend that these blades of currency devaluation aren’t real.
My immediate term TRADE support and resistance levels for the SP500 are 1007 and 1041, respectively. The US Dollar breaking down puts that topside target in play.
Best of luck out there today,
VXX – iPath VIX — We bought volatility on its lows on 9/3 ahead of last Friday’s employment report.
XLU – SPDR Utilities — We bought some low beta dividend yield on its lows on 9/2. Utilities traded down 1% and they should act ok during stagflation fears.
XLV – SPDR Healthcare — We’re finally getting the correction we’ve been calling for in Healthcare. It’s a good one to buy into. Our Healthcare sector head Tom Tobin remains bullish on fading the “public plan” at a price.
EWH – iShares Hong Kong — The current lower volatility in the Hang Seng (versus the Shanghai composite) creates a more tolerable trading range in the intermediate term and a greater degree of tactical confidence.
CYB – WisdomTree Dreyfus Chinese Yuan — The Yuan is a managed floating currency that trades inside a 0.5% band around the official PBOC mark versus a FX basket. Not quite pegged, not truly floating; the speculative interest in the Yuan/USD forward market has increased dramatically in recent years. We trade the ETN CYB to take exposure to this managed currency in a managed economy hoping to manage our risk as the stimulus led recovery in China dominates global trade.
TIP – iShares TIPS — The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield. We believe that future inflation expectations are currently mispriced and that TIPS are a efficient way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.
DIA – Diamonds Trust — We shorted the Dow on 9/3. In the US, we want to be long the Nasdaq (liquidity) and short the Dow (financial leverage).
LQD – iShares Corporate Bonds — Corporate bonds have had a huge move off their 2008 lows and we expect with the eventual rising of interest rates that bonds will give some of that move back. Shorting ahead of Q4 cost of capital heightening as access to capital tightens.
EWJ – iShares Japan — While a sweeping victory for the Democratic Party of Japan has ended over 50 years of rule by the LDP bringing some hope to voters; the new leadership appears, if anything, to have a less developed recovery plan than their predecessors. We view Japan as something of a Ponzi Economy -with a population maintaining very high savings rate whose nest eggs allow the government to borrow at ultra low interest levels in order to execute stimulus programs designed to encourage people to save less. This cycle of internal public debt accumulation (now hovering at close to 200% of GDP) is anchored to a vicious demographic curve that leaves the Japanese economy in the long-term position of a man treading water with a bowling ball in his hands.
SHY – iShares 1-3 Year Treasury Bonds — If you pull up a three year chart of 2-Year Treasuries you'll see the massive macro Trend of interest rates starting to move in the opposite direction. We call this chart the "Queen Mary" and its new-found positive slope means that America's cost of capital will start to go up, implying that access to capital will tighten. Yields are going to continue to make higher-highs and higher lows until consensus gets realistic.