Dubai Inc - Markets for the week ending 27-Nov-09

Question: What is(are) the key lesson(s) from the Dubai World event?

a) A timely reminder that this is a too-quick-to-be-true recovery for the global economy
b) The decoupling story that emerging markets carries higher growth opportunities deserve to be charged higher risk premiums
c) Risky investments NPV-ed against implied state guarantees carries default risk that are typically underweighted by investors

Answer: All of the above.

Eric Tan,
Singapore

How far will the USD carry trade go?

The combined efect of zero Fed funds rate, quantitative easing, credit easing and massive purchases of long term debt instruments by the US government is resulting in a boon for the USD carry trade and boosting highly leveraged global asset bubbles.

However, if the dollar reverse and start to appreciate, this popular leverage trade will result in a stampede of investors to close their risky asset positions across all global asset classes to cover the short USD position.

This can happen as a) the USD will have to stabilise at some point; b) Fed's asset purchase plan will have to end and volatility will rise; c) US GDP growth may start to accelerate leading to raising of interest rates; d) Global economic worsening resulting in flight to safety of the USD; and e) coordinated intervening of the USD depreciation by emerging economies.

Eric Tan,
London

Domino effects. Markets for the week 30-Oct-09

In the last 3 days, global stock markets corrected with the announcement of ING's breakup. As Brussels set the stage for regulating banks which received massive government help during the crisis, other banking groups are reeling from investor's fright of a domino effect on the sector.

The lessons learnt from giant financial groups to the likes of AIG, Citigroup - too big to succeed, impossible to run and too big to fail are becoming the nightmares of regulators who are entrusted with the responsibility of maintaining market stability and preventing systemic risks.

At the height of the crisis, governments had to approve mega consolidations of banks such as Lloyds and HBOS or JPM and BearStearns. This is probably sowing the seeds of new crises unless regulation is revamped.

With poor economic data released this week, optimism for the future is low. So, investors will have to sit tight as it seems like the next few weeks will be a rough ride.

Eric Tan,
London

At the end of the 1st week of Q3 earning reporting, we have seen the entire spectrum of what to expect in the forth coming weeks.

Goldman and JPMorgan announced stunning results to the world ($3.2b and $3.6b respectively), whereas Bank of America posted a $1b loss as continuing consumer credit hurt earnings. General Electric, the bellwether conglomerate of the US ecnonomy reported earnings falling 47% to $2.5b.

However, most of the attention went to the amount put aside as bonuses for Goldman employees, a whopping $16.7b so far for this year. Given the record unemployment number and poor consumer sentiment, this is going to be hard to swallow for the public, especially as recent as just a year ago, Goldman received help for the government to get it through the financial crisis.

Eric Tan,
London

Parallel Universes

Investors diametrically opposed views on everything in the markets from growth prospects, inflationary fears and deflationary pressures are all causing simultaneous rises in assets.

Since March, we have witnessed a surge in the equities markets. Oil,gold, commodities are rising in antipation of a global recovery. On the other hand, bond yields are falling steadily and reports of US mutual funds are increasing net inflows to fixed income funds. In the world of forex, Australian and Brazilian currencies are reflecting the increase in risk appetite and yet Japanese Yen and gold typically reflecting a safe haven currency are at record highs.

The markets have been reflecting the inconsistent economic data with rising unemployment and recovering growth.

With a strong boost provided by Alcoa earnings, over the next few weeks, US companies is likely to announce strong earnings supported by exports and continued cost cuts, but inability to demonstrate revenue growth may result in a fall in momentum leading to a reality check for investors.

Eric Tan
London

Why waste a good crisis?

This week, London Business School celebrates Worldwide Alumni Celebration 2009. A series of lectures and events are held all over the world. In London, a lecture in Lloyds iconic building fired off a series of events - "Where does it go from here?"

The most interesting idea I personally thought was : Why waste a good crisis?
The panel spoke about how we can see the policy makers doing the "easy-but-irrelvant" bits such as targeting the tax haven status of some economies, or pursue the "crowd-pleaser" bits of slamming bonuses and hedge fund/private equity regulations.

However, the big-big issues have not been formally addressed.
- How should banks be sized?
- Taxing by size to discourage too big to fail financial institutions
- Reviewing the Glass-Steagall act
- Tobin Tax
- Living Will
- Ratings agencies
- Cross border issues

Macro prudential regulations have also not been openly addressed. Spain managed to largely avoid the US subprime crisis by having a countercyclical capital ratio which looks increasingly likely to be adopted in the rest of Europe, but the currently prescription may get nowhere near high enough for it to be effective.

So it seems like there are many thoughts to take away from this week of Alumni celebrations in London Business School, but one thing is for sure, the regulators have a lot more work to be done before this crisis is over.

Eric Tan,
London

A weaker dollar. Markets for the week ending 25-Sep-09

The dollar has been falling steadily against its main trading currencies for the last 8 weeks. So, what does a weaker dollar imply and what kind of policy responses might that provoke in the EU given the euro has more to lose with a weaker dollar.

A super weak USD could risk exporting deflation to the rest of the world
since central banks around the world are now enagaged in managing the recession with a cocktail of a) quantitative easing, b) loose monetary policies, and c) low interest rates and it leaves them very little to combat a sudden appreciation of their currencies against the dollar. This could lead to a liquidity trap and result in them being unable to dig their economies out of a deflationary scenario.

Looking back into the history books, in the last 30 years the world has witnessed several instances of central bank intervention:
1985, G7 signed the Plaza accord to weaken the dollar
1987, G7 pledged to support falling dollar
1995, G7 intervened to help dollar
1998, Americaand Japan sold dollars to prop yen
2000, ECB, Fed, BOJ and UK, Canada supported the Euro.

So, does this mean we're going to see another round of central bank intervention in 2009?
Maybe. Coordinated intervention can work(as seen in the past), but needs to be consistent with changes in interest rates globally.
So why not do it straight away?
Central bankers hate to mess around with free markets, besides it's difficult to predict the precise consequences of interventions.

Eric Tan,
London