Thursday, April 23, 2015

Time To Short the Mighty Greenback?

Netty Idayu Ismail of Bloomberg reports, Hedge Fund That Made 18% on Dollar Strength Now Bets on Drop:
Charlie Chan, a former Credit Suisse Group AG proprietary trader who now runs his own hedge fund, reduced bets the dollar will strengthen and added trades that would profit from a decline.
Chan said he trimmed his fund’s long dollar position versus the yen last week after the U.S. currency’s rally stalled following gains of more than 10 percent in each of the past three years. He’s now betting the greenback will weaken against Asian currencies including Singapore’s dollar, South Korea’s won and India’s rupee, the founder of Singapore-based Charlie Chan Capital Partners said.
A gauge of the dollar has slumped 0.9 percent in April, halting a nine-month rally that propelled it to the highest on record. U.S. retail sales, manufacturing and jobless claims have all missed estimates, leading traders to push back estimates for when the Federal Reserve will raise interest rates.
“The long dollar story was getting a little stale,” Chan said in an interview on Wednesday. “Then the U.S. numbers were coming out not as strong as it was anticipated initially.”
Chan said his Splendid Asia Macro Fund has returned more than 8 percent this year, adding to its 18 percent gain in 2014. Bets on a stronger dollar and an advance in Japanese stocks boosted its performance, he said. The fund invests in bonds, currencies and stocks in Asia. 
‘Probably Time’
The dollar has fallen almost 2 percent from a seven-year high of 122.03 yen reached on March 10 to trade at 119.65 at 8:32 a.m. in London. Chan predicts it will extend its decline to as low as 118. Strategists surveyed by Bloomberg estimate the dollar will appreciate about 4 percent versus the yen this year.
“The yen has weakened quite a lot and Japan has eased quite a lot,” Chan said. “So, it’s probably time to let all this easing work its way through the market. I’ve always held the view the dollar wouldn’t go much beyond 120.”
The Bank of Japan kept its record asset-purchase plan unchanged this month as Governor Haruhiko Kuroda sought to spur inflation that has stalled with the tumble in oil prices. Kuroda has made a 2 percent inflation target central to his campaign to revive the economy after two decades of stagnation.
Hedge funds and money managers cut bets to the least since October that the dollar will strengthen, according to data from the Commodity Futures Trading Commission. Net futures positions betting on a stronger greenback against eight major counterparts dropped to 329,939 as of April 14 from 361,335 a week earlier.

The currencies of Taiwan, Korea and India are among the top seven performers this year out of 31 major peers tracked against the U.S. dollar. Developing Asian economies are set to expand by 6.6 percent this year, outpacing global growth of 3.5 percent, according to April forecasts by the International Monetary Fund.
“I’m still mildly optimistic on Asia,” Chan said.
Back in October 2014, I explained why the mighty greenback will keep surging to new highs, especially relative to the euro. I said that "I wouldn't be surprised if [the euro] goes to parity or even below parity over the next 12 months. There will be countertrend rallies in the euro but investors should short any strength."

I also stated the following:
... if you ask me, there is another reason why the USD is rallying strongly versus all other currencies and it has little to do with Fed rate hikes that might come sooner than the market anticipates. When global investors are worried about deflation and another crisis erupting, they seek refuge in good old U.S. bonds. This has the perverse effect of boosting the greenback (USD) and lowering bond yields, which is why I'm not in the camp that warns the bond market is more fragile than you think.
My thinking hasn't changed since I wrote that comment. While everyone is talking about a recovery in Europe, they fail to understand this is a temporary boost due to the decline in the euro. Barry Eichengreen wrote an excellent comment in Project Syndicate, Europe’s Poisoned Chalice of Growth, outlining why the underlying conditions that produced the eurozone crisis remain unaddressed.

Worse still, the situation in Greece is going from bad to downright ugly. The Greek government has resorted to confiscating money from municipalities to make its payments. Merkel will keep pressing Tsipras on reforms and he will keep telling her Greece has done its part, which is a complete joke and an insult to other countries like Slovakia which did implement harsh reforms.

Meanwhile, while intelligent investors like Warren Buffett think Grexit 'may not be a bad thing', they fail to appreciate the contagion effects that go along with it. Sober Look wrote a great comment examining why Bank of Greece expulsion from the Eurosystem could be especially damaging to the currency union. Anyone who thinks Grexit will be easy and painless is just fooling themselves.

Of course, dealing with the clowns running Greece is downright frustrating. All Greek politicians are dangerous demagogues, and Syriza's leaders are no different. They're a complete travesty and a total disgrace to Greeks around the world. I've had it with their stall tactics and refusal to implement serious reforms. They can schmooze up to Russia all they want, at the end of the day, they're going down. It's a matter of time now, and I think Merkel and the rest of the eurozone leaders will keep squeezing them hard until they're forced to implement proper reforms or more likely, until they do something stupid like tax bank accounts in Greece, pretty much ensuring they will be thrown out with pitchforks.

Of course, all this endless political posturing is a lose-lose game for Europe, Greece and the world. While the world is subjected to the endless Greek saga, the underlying structural problems plaguing the eurozone remain unaddressed. Kicking Greece out of the eurozone will only temporarily shift the focus away from this fragile union (problems in Spain, Italy, Portugal and even France will surface).

And by the way, there are underlying structural problems that remain unaddressed everywhere, including the United States of America. While I still believe the U.S. leads the world, I discussed the ongoing jobs crisis and pension crisis hitting that country with Gordon T. Long a couple of weeks ago (click here to listen to our conversation). My biggest fear remains that global deflation will eventually hit America when it least expects it, and the Fed will be making a monumental mistake if it starts raising rates too soon.

In fact, DoubleLine Capital’s Jeffrey Gundlach, the bond manager who has beaten 99 percent of his peers over the past five years, said the full impact of the Federal Reserve’s “extreme policies” have yet to be felt in the market:
The Fed has been “very well-intentioned,” Gundlach said, speaking in an interview on Sunday on Wall Street Week. “The ultimate consequences of all these extreme policies have yet to be felt and will be felt.”

The central bank has kept rates in the U.S. near zero and embarked on unprecedented monetary stimulus since the 2008 financial crisis. Known for his contrarian views and top returns, Gundlach said rating the Fed very highly at this point is “sort of like a man who jumps out of a 20-story building, and after falling 18 stories, says, ‘So far, so good.’”

Gundlach, who manages the $46.2 billion DoubleLine Total Return Bond Fund, has beaten 99 percent of peers over the past five years, according to data compiled by Bloomberg. He said last month that if the Fed increases interest rates by mid-year, they would have to reverse course. On Sunday, he said that the probability of a rate increase by the Fed in June is very low, because the economic data doesn’t support such a move.

“I think the Fed would like the data to corroborate their ability to raise interest rates but it isn’t there yet,” he said.

Gundlach reiterated caution on high-yield bonds, saying that default rates could go higher. He also cautioned investors that some mall real estate investment trusts are in a “death spiral.”

Gundlach started Los Angeles-based DoubleLine in 2009 after he was ousted as chief investment officer of TCW Group amid a dispute that led to a legal battle.
By the way, I completely disagree with the former bond king, Bill Gross of Janus Capital, who recently stated betting against German government debt is the trade of a "lifetime." Really? Good luck with that trade Bill, you'll be under water for a very long time.  

When it comes to currencies, it's a relative game. The U.S. is in much better shape than the rest of the world which is why its currency keeps surging. And unlike Charlie Chan and Stan Druckenmiller,  I'm not optimistic on Asia and fear when the China bubble bursts, it will wreak havoc in the region and on the global economy.

As far as Japan, Sober Look's latest looks at the BoJ's monetary expansion and its impact on the yen, and states the following:
In the long run however, further yen weakness seems inevitable. The reason has to do with the sheer relative size of Japan's quantitative easing. Based on the latest projections, the BoJ's balance sheet will be above 90% of Japan's GDP within a year or so. This dwarfs other major central banks' monetary expansion efforts, including that of the ECB. Furthermore, given the scope and size of this program, it is unclear if the Bank of Japan can ever effectively exit it without a massive disruption to the nation's economy. While we could see the yen strengthen briefly in the near-term, the currency will remain under pressure for some time to come.
I couldn't agree more, Japan has huge structural issues it has yet to deal with, like an aging population and no immigration to help address a low birth rate.

All this to say when I look at the big picture, it's not hard to understand why the mighty greenback keeps surging higher. And while unwinding the mother of all carry trades will be brutal, I just don't see it happening anytime soon. The world remains a mess and everyone is hoping the U.S. will lead it out of this mess but my fear is the worst is yet to come.

And if my fears come true, global investors will scramble to buy good old U.S. bonds (TLT), propelling the greenback even higher, which ironically will ensure a prolonged period of global deflation. This will decimate pensions and individual retirement accounts that remain a great failure for savers.

Of course, optimists will point out to rising oil prices (USO) and the dead cat bounce in iron ore stocks like Vale (VALE) as a sign the global recovery is on its way. Let's hope so but I remain very skeptical and would short any countertrend rally in energy (XLE), oil services (OIH), commodities (GSG), including metals and mining (XME). Still, I'm playing the liquidity rally in stocks, trading a few tech and biotech names and ready to pull the trigger at any time. These markets make me very nervous.

Below, Doug Oberhelman, Caterpillar chairman & CEO, discusses the company's quarterly results, and how a strong U.S. dollar is impacting the top and bottom line. I listened carefully to Oberhelman earlier today and he is cautiously optimistic on Europe but he hardly sounded too enthusiastic on global growth and basically said there's no strength in mining whatsoever.

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