Thursday, February 4, 2010

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.


  1. Besides P/E being overvalued, jobs still being lost, housing disappointing, why will things get VERY ugly? There's not much surprise, I guess, except maybe people are looking for more economic gas?

  2. I have a thought but it is a bit long and I need to work it out first. I will offer a short version when my head stops spinning!

  3. john-

    the very ugly is related to the unwind of the rebound we'e seen in all asset classes since last march and the re-introduction of credit risk of sovereigns. everything prices off of sovereigns (credit prices off of sovereign rates, equities price off credit, etc...), thus this has the potential (though unlikely) to revisit a 2008 crisis of the system vs. within a system event

  4. jake,
    why unlikely?

    Short version; bluff of Euro has been called. Explicit backing of problem debt (Greece, Spain, Portugal, etc) is now demanded by the markets. How can they not answer and what does that mean for the currency?

  5. not necessarily unlikely that we'll see a correction in markets and/or economic downturn, but i think unlikely of a crisis of the system (where counterparties don't trust one another, bank runs occur, and the global economy shuts down).

    it will be interesting to see how this plays out. i can see two opposing stories play out if the spain, greece, portugal get bailed out.

    1) the euro gets crushed
    2) the euro rallies as the uncertainty is reduced