Sunday, March 22, 2009

The First Two Rules Of Zero Hedge...

...have been broken. However the end result is welcome as I present to you the first Zero Hedge recruit, Cornelius. Cornelius has an exciting and very pertinent background, packs a mean financial punch, and will focus on a space that I have not been able to devote much time or attention to: global macro with a focus on FX and commodities.

Please welcome him to the club.

The Currency Week In Review
By Cornelius

The big news in FX markets last week was the post-FOMC announcement that the Fed was going to buy back additional $750B of agency MBS in addition to $300B of US long treasuries. The pattern was consistent across the major currency pairs - the USD got hammered from peak to trough to the tune of roughly 500-700 pips from the initial sell-off, a brief profit taking period and another mini sell-off the next day. This is a significant event for two reasons: one, the FX markets were clearly not pricing in any expectations of this and two, this event jarred the trend over the past few months of USD strengthening on the back of the "safe haven" theory.

In the 10-year history of the Euro, Wednesday was the largest single day jump for the EUR/USD currency pair. The FX markets were anticipating a largely quiet Wednesday, expecting the Fed to maintain the Fed Funds rate in the 0-0.25% target range. However, the announcement of the buyback rocked the markets as the consensus view was that the Fed was limiting itself to the conventional monetary policy tools and was constrained by an already bloated balance sheet. The Fed's actions showed a willingness to battle the recession at all costs and showed the FX markets to be badly out of synch with this mentality. This is significant, because going forward the markets will more closely track to the expectations of the Fed's view of the US recovery and the resulting potential balance sheet actions. Given that the Fed funds rate is not likely to change over the next 6 months, currency market watchers should pay very close attention to the nitty gritty details of credit expansion and the political machinations in DC.

In short, the trick to trading FX has always been to know which number is the key number, to figure out where it's going and to get ahead of it. Wednesday was an inflection point; the key number isn't about guessing a quarter point move in the funds rate, it's now guessing how much more political will does the Fed have to puff up its balance sheet.

In a general trend of risk aversion, the USD has quietly been strengthening over the past 3 months. Despite interest rates being at record lows, investors piled into dollars to avoid the contagion of the global depression and most investors adopted a bunker mentality in their outlook. Wednesday's announcement woke a lot of people up and opened the field for a more risk-friendly attitude. On the "So what?" meter, this is potentially huge. The mindset change could see a reversal over the next few months of the larger "safe haven" trend as investors pile back into the risky foreign assets that they've ditched. This could also be a poor sign for other proxy reserve currencies such as gold and the Swiss franc. The migration back to risk will require a few things, most notably a belief that the Fed can act successfully to get credit flowing and that the resulting lower spreads will be sufficient to justify increased foreign investment. Of course, these are two huge ifs that need to be closely monitored but the Fed's actions are a clear indication that such thinking is at least on the table.

On a separate note, look for the Japanese to strike back over the next 3-6 months. The yen has been gradually weakening and last week's movement is not likely to make the export-crazy Japanese too happy. While there is no official policy statement, the smart money consensus is that the Japanese government has and will engage in open market actions to continue to devalue the yen. Look for the USD/JPY to break the 100 barrier before the summer. Sphere: Related Content
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Anonymous said...

Ah, taking a que from the great Peter Schiff? I'm all ears! Gotta hedge all this cash somehow even if I have short DXM9.

aigroup said...

enuf with the suspense already. what were the two rules?

great blog btw.

Cornelius said...

You're better off shorting greenbacks through a specific pair - the diversification of DXM9 isn't worth the possibility of some of the shocks out there diluting your bet (e.g. Australian short rates, persistently low oil, etc.)

Don said...

Would your view lead to the conclusion that China will not sell Agencies, but actually consider buying them?

Don the libertarian Democrat

Sam said...


Google "Fight Club rules" ;)

Kirkland said...

One possibility is that, as you say, this will make investors more risk-friendly, and also impact gold and the Swiss franc. Another is that this just showed them that the dollar was not actually as safe a haven as they thought; that line of thought would make gold more, not less attractive (and also the Swiss franc, if the Swiss central bank hadn't started weakening the currency).

Cornelius said...

The gold/CHF issue is something I have been going back and forth in my mind over the past 2 weeks.

At this stage, I'm slightly leaning to gold being inverse to USD and CHF tracking it (i.e. low vol on the Swissie).

The complication here isn't so much understanding what the answer "should be" - it's understanding what the true market psychology is and conquering that trend. You only need an intro to Economics course and a dog-eared copy of Macroeconomics by Mankiw to decipher the code but there are so many conflicting priorities/viewpoins/restrictions out there, you really need to keep your ear to the ground to keep on top of the pscyhology.

Anonymous said...

His name is Robert Paulson

His name is Robert Paulson

His name is Robert Paulson

Anonymous said...


Welcome Pertinent Cornelius!

I'm looking forward to some good curr/comm articles.

Anonymous said...

welcome cornelius.. appreciate the article..

btw.. can someone tell me the "2 rules" from the movie mentioned above? thx.

Anonymous said...

rule#1) read the comments before you type

Fzep said...

The first rule of Fight Club is: You do not talk about Fight Club. The second rule of Fight Club is: You do NOT talk about Fight Club.

chrispycrunch said...

The stock market will tell us if we should ante up or call the bluff of the Fed move.

If the market sells off or continues to decline, then the USD strength will actually hold. Otherwise, a rally means there is faith in what the fed is doing, and money will pour overseas as well as to commodities. I don't see the latter happening so it's best to use the usual indicators to determine which way the market will go.

Anonymous said...

...and since this his first post, he HAS to fight (or answer every comment, whichever is more painfull).


Anonymous said...

lemme guess...long oil, long china and EM, short dollar and OECD equities...blah blah blah. All you doom and gloomers are all the same.