What's Going On?

Light posting today as I am once again on the road, but I thought I'd weigh in on what I view as the cause for today's (and the past few weeks) risk asset collapse...

While some are claiming the ugly initial claims number, I can't fathom how this makes sense (is the weak employment market a surprise to anyone at this point? And how does this explain the dollar rally?).

My thought... I think the legit issues within the Eurozone are causing some 'dollar shorts' / 'risk asset longs' to reconsider (or forced to unwind) their positions. As detailed back in November's post (Did We Learn Anything? Carry Trade Edition), any shift in sentiment has the potential to move markets dramatically as so many levered "investors" have piled in on the same short dollar trade. Once an unwind of any carry trade begins, there is the potential for a pretty bad feedback loop.

My guess is that things (assets / non-USD currencies) will bounce back from here over the short-run (bought some pretty cheap options for a short-term rebound), but if it doesn't... things may get VERY ugly, VERY quickly.

The Great (Two Week Glimpse of What Can Happen) Unwind

As detailed in early November in my post Did We Learn Anything: Carry Trade Edition:

The issue is that at some point the dollar will stabilize (or gain in value), increasing the "real" cost of borrowing the dollar.

BUT... if the correlation of assets purchased is near one on the way up, it is sure as hell going to be that high or higher on the way down. And what happens to all these investors that are attempting to leave the same exit door at the same time? Massive re-purchasing of the dollar and massive selling of any risk asset... joy.

While I still do not think this is the official end of the carry trade, the last two week's give a glimpse into what can happen.

Interesting (to me) is that equities have held up relatively well over this period.

Source: Yahoo