Fundamental Market Conjecture

Be warned that for some reason I remain a perennial optimist.

It strikes me that a lot of the current analysis is based on credit spreads and other esoteric measurements with an eye towards what current values would have implied during past periods.

I'm not saying that this analysis of fundamentals is wrong, but consider this for a moment. Every time something surprising happens we end up looking backwards and seeing an obvious exception to rules that everybody had been following.

If you don't know what I'm talking about think back to the great depression. It taught us that the government should not greatly restrict money and spending during tough times -- or else. That event greatly advanced our thinking and until recently we had constraints on capitalism in order to protect ourselves.

So, what, if any, shaky assumptions are we all basing our fundamental analysis on?

I wish I had some concrete ideas.

What about adopting the T. Boone Pickens plan? Pushing that amount of money into natural gas, and the companies and employees that would produce it, would be a tremendous economic stimulus. Think about it. Instead of throwing money into the ocean to pay for foreign oil the US would be paying it's own citizens to produce energy resources. Those citizens would get off of the unemployment roles, spend their money on goods and services and even pay taxes.

The analysis on moving from oil to alternatives has not taken into account the tremendous effects of the velocity of locally spent money.

Hey, what about winding down war time spending and bringing home the majority of the US troops abroad? Once again, all of the consumable products and services being purchased from foreign suppliers could be eliminated. In short, it's another way to stop throwing money around the world and stoke the internal flames of the US economy.

Does anybody know if China is still on the map? I can't believe that all the people in China will suddenly stop consuming good and services. Who are they going to buy their commodities from? Just as the parabolic spike to high prices was a gross mistake, so is any reverse parabolic spike to prices well below the bottom of the last parabolic rise.

Perhaps over the centuries we've developed a little bit more investor intelligence? I know, I know, this is hard to believe under the current meltdown, but there are people out there with untold amounts of capital under their management. They are going to be spotting bargains very soon now -- and they can step in and properly capitalize companies that have excellent long term value if the current owners find themselves in a position that forces them to sell.

I don't know what will or won't happen. However, I do know that having a global credit crisis right before an expected global economic slowdown has driven panic to levels that are perhaps unheard of. This implies that market mood will be driven down to lower levels than would be appropriate for either crisis alone. At the same time, many companies that refuse to or are unable to get capital are going to find themselves facing pent up demand -- assuming the end of the world does not quickly ensue.

Maybe.

Market Rationality?

With some major changes happening on a global basis it's just possible that the forex markets will return to rationality.

For example, the Yen crosses (the carry trades) have been taking off like a shot today. I know I've been mooing about a possible bottom here and there in the face of mass panic and extreme volatility as indicated by the VIX.

Was that it?

I hope so, but at the same time there is a lot of economic funk to work through. We've got slowing economies, reduced earnings, ballooned government debt and a whole host of related irregularities.

However, simple economic malaise is not enough to roil the forex markets. They don't have to react in the same way as individual stock markets. If two countries are both going to drop into a recession it would seem that the currencies of those countries would react based on the relative differential between the fundamental shifts in those countries.

I'm not sure if that's clear, but it means that currencies will determine the difference, and change to that -- at least when the markets are rational. It would be great to return to that situation. I'm looking forward to trading in rational markets once again.

They are much easier to trade.

VIX Ahoy 2

Did I mention the VIX was high yesterday?

I meant that it seemed to be getting a bit heated.

Today the VIX is high.

Tomorrow? You tell me.

ECB Liquidity Changes

I noticed something in a news item that I read today that I thought I'd share.

While the big news is focused on the coordinated drop in central bank rates, the ECB did something else. They also eliminated their auction system. No, no, they haven't stopped providing liquidity, they are just doing it a different way than the standard auction process.

What now?

They are making unlimited amounts available at a fixed interest rate of 3.75 percent. Some other additional steps were taken too.

This sounds pretty interesting in the longer term, once the panic lifts.

Does anyone want to delve into figuring out what "unlimited funding" really means?

VIX Ahoy

So, we didn't have any type of bounce off the AUDJPY recovery support trend line. If you were watching the DOW or the NIKKEI you knew what was happening.

At the same time we have a new high water mark in the VIX. Look at that thing. I mean, seriously?

The only thing I can really point to that may be encouraging is that these higher VIX levels don't seem to be equating to lower lows in the currency markets. Well, let me be cautious, not yet anyway.

Strap on your life preserver and wade on in. You might just catch a wave going in your direction... just know when to get off of it!

AUDJPY Technicals

I'm looking at my AUDJPY trend line.

We've seen some good movement, recovering from the recent meltdown in short order... probably due to the coordinated rate changes.

While I like the move I think we're getting to the top of our current trading channel. How we handle the reversal, assuming there is soon to be one, will set the tone of the next couple of days.

If we bounce back up on or before the lower trend line it should mean good things. Next week, of course, may be a different story.

P.S. Can't figure out where the bottom trend line is? Buy a book or something.

Carry Trade Musings

Did you see the carry trades collapse today?

Neither did I.

In fact, things looked downright orderly. Nay, they looked rational. Is this a trick or have all the truly skittish abandon ship at this point?

Be warned, I'm almost always too quick to look past current issues, discounting the ability of the current situation to cause additional convulsions before passing. However, with that said, I'm getting interested in the carry trades.

The AUDJPY, for example, has a lot of retail appeal in Japan. Over time the rate of return during rational market periods is very attractive. There is always a small but consistent upward pressure in this pair.

Both the 1hr and the 3hr charts (Oanda has a 3hr instead of 4hr time frame) could be interpreted as ready for an upward spike. Think I'm nuts? Then get ready for a downward spike.

Just keep in mind that carry trades wind up fairly slowly, most of the time, and unwind with great speed. Your opportunity for quick profit comes with panic and unwinding.

UPDATE: Now, Wednesday morning, we see a recent carry trade meltdown and coordinated rate cuts. Once again I feel compelled to point out that you might just be able to reverse my opinions and be profitable...

Aussie, Aussie, Aussie

Oi, Oi, Oi.

Yeah, okay, it's a big honking rate cut.

Scuttlebutt has it that there might be some coordinated activity in the works, which this RBA rate cut is a sign of.

I'm a bit skeptical of this, but you never know.

However, with their rate now down "all the way" to 6.00 percent, a very high employment rate and a huge public works infrastructure project in the pipeline, funded by recent record exports, I'm still unsure why anybody thinks Australia is a bad bet.

Unless their banking system is about to collapse, like they'd have the only banking system with that particular issue, they seem to be in a much stronger position than most right now.

Europe Gets Crushed

Well, it's been an interesting 24 hours on the Forex markets.

I'd like to say I was on top of everything and made a boatload, but instead I have to admit this has been a lesson style experience. My stops were hammered mercilessly and then the markets dumped me unceremoniously on the pavement. So to speak.

I guess the theme of the day is weakness in Europe. Another theme might be strength in Japan though I think their claim to fame is merely stability by avoidance of stupidity. Think back a few months, when the Euro was hitting new highs daily, and the US was in the doldrums.

So, the big question of the day is really whether or not you expect the Euro to continue tanking in the short term. On the other side, you have to wonder when people will slowly unclench their butt-cheeks and allow themselves to convert their Yen into other assets. Obviously, everybody has been burned, so we can expect caution, volatility, profit-taking and anything else that can make the markets hard to fathom.

Just ask yourself, what's he worst that could happen? No, no, I'm not talking about supreme disaster, but with respect to whatever trade you might be interested in speculating on. Will the Yen rise, drop, go sideways? Will the carry trades buck like a bronco while Europe does a head fake, with intervention promised but not delivered?

I don't really know what to suggest. Wear your seatbelt? Okay, in English, take smaller trades and be sure to use protection, er, stops.

On the flip side, when it's over, you can easily be left on the sidelines. I mean, the world got it's panic on, is there much left? If you've already liquidated your kitchen sink, there really isn't much else to do during the next wave, is there?

Good luck out there!

Seeing Beyond The Bailout

Now that the US bailout package has been passed the question on everyone's mind is what happens next?

Nobody knows. Conversely, everyone knows!

Once the question of government action has been answered we know that the currency markets will move either up or down. Basically, the only time they are in near stasis is when speculators and investors need the next piece of information in order to properly develop their expectations.

Okay, I know, you'd like some ideas to consider so that you can gather ammunition and make up your own mind.

My take is that the GBPJPY and AUDJPY are setting up for a possible double bottom on their 1d charts. The bailout package represents a reason for currency traders to accept a bit more risk. As I'm sure you know carry trade positions are liquidated during periods of risk aversion. Somebody, somewhere, is going to look at the exchange rates and decide that there are some deals.

I'm unsure which currency is more appealing. Both the UK and Australia appear to be in the process of relaxing fears with respect to inflation. When they drop interest rates their currencies won't react by appreciating in price.

However, the GBPJPY is extremely low in historic terms. Perhaps there is some inertia or general distrust of the cable that needs to be worked out, but you have to wonder how much further it can fall. Isn't somebody out there going to start considering goods and services from the UK competitively priced?

With respect to the AUDJPY, I can't imagine that Australia won't be able to sell commodities into Asia. Sure, currency prices may be falling, but the fall in the Australian dollar will leave exporters in a profitable position regardless. With this being the case -- how can Australia consider inflationary pressures to be abating?

Of course, I should note, speculation on macroeconomic fundamentals such as above is not a short term play.

So, what's my strategy?

I plan to accumulate carry trades during upswings. Sure, what upswings you might be wondering. If there aren't any, then I'll continue to wait. However, I expect to see them soon. Once these trades are profitable I'll place in-profit stop losses on them and open up new positions at opportune moments.

Looking at the long term as I am I see thousands of pips on the table. If I can accumulate more and more positions, under the protection of profitable stop losses, I could end up riding some serious profit. Of course, the hard part is not letting all my trades be shaken off when the market is bucking.

Close Your Eyes

Okay, so it doesn't look like anything at all is happening as of yet. Personally, I'm scalping the EURUSD on the 1 min chart this evening.

It seems that nobody is willing to assume that the house will pass the bailout bill this time around. So, once again, we find ourselves in a state of financial stasis. In fact, given the rise that occurred on the original announcement, it may just be that we are priced in already.

If so, that means there is really only a downside, which we'd see on failure.

Who knows?

Cover your assets! ;)