Weekly Wanderings 21 October 2009
This week the US dollar carry trade, gold and scary charts!…
Each week over at MaxKeiser.com, Max and Stacy present a radio show entitled “The Truth about Markets”. There are at least two variants of the show, with one slanted towards Christchurch (New Zealand) listeners. In this WW, I summarize the points discussed this week in the show. (The full audio can also be downloaded here.)
(1) Carry Trades. The idea of a carry trade is to fund one asset by selling short or borrowing one currency or asset that is hopefully decreasing in value, and to use the proceeds to buy another asset that is hopefully increasing in value. New Zealand has been strongly affected by the Yen carry trade, in which large amounts of yen were borrowed at essentially zero percent interest and used to buy the kiwi (NZ dollar), which yielded a high rate of return because of our high interest rates here.
(2) There used to be a Gold Carry Trade, in which gold was borrowed from Central Banks, again at very low interest rates, then sold, and the proceeds used to buy other higher yielding assets, such as US Treasury bonds. When Barrick Gold announced recently that it was dehedging or closing its hedge book, this was seen by many observers as a signal that this version of the gold carry trade was essentially finished. (See this previous article for more on the Barrick dehedging: Professor Fekete: Why Barrick Gold has ended Gold hedging)
(3) One powerful effect of the gold carry trade was to artificially suppress the market gold price, thus creating downward pressure on it. Possibly the announcement by Barrick also contained a subtle signal from the powers that be that the price of gold would henceforth be allowed to move more freely.
(4) The US dollar is now, and has been for the last 12 months, available to borrow at essentially zero cost, indicating the beginning of a new US Dollar carry trade, and is now being used to buy other perceived higher yielding assets (like the resource currencies – the Australian, New Zealand and Canadian dollars). There is evidence that gold is a beneficiary of this new carry trade, and certainly there is now upward pressure on the gold price, and concomitant downward pressure on the value of the US dollar.
(5) Other upward pressures on the gold price include the existence of the exchange traded funds, GLD for gold and SLV for silver, which, although they are problematic to some extent, provide an easy way for the general public to invest in precious metals.
(6) Central banks around the world, most notably the Chinese, are buying gold in increasing quantities. Chinese officials have announced that every time the gold price sinks below a certain level, they will be a buyer, thus giving rise to the notion of the Beijing put, analogous to the so-called Greenspan put. The effect of this is to create a floor under the gold price.
(7) This new dollar carry trade could be derailed, if the US authorities were to raise interest rates substantially. However one powerful reason that this is unlikely to happen over the next couple of years at least, is because of the large number of ARMs (adjustable rate mortgages) in existence, whose rates would then have to be reset, dealing another crippling blow to the housing market.
(8) Speaking of interest rates, the RBA (Reserve Bank of Australia), has just chosen to raise interest rates. Well known Australian economist Steve Keen suggests that this is a serious error, because there is a housing price collapse yet to occur. We observe that one thing is certain: if Aussie housing prices were to collapse, NZ house prices would definitely echo that trend.
(9) Once the US dollar has assumed this role as a funding currency for carry trades, there is consequently tremendous pressure on its legitimacy as the world’s reserve currency, since its value is continually being forced down by the carry trade. This is one reason that monetary authorities around the world are calling for a new reserve currency. In fact, gold is now unofficially assuming that role.
(10) Monetizing the debt. Another thing that has worried foreign holders of US dollars is that the US would start to monetize its debt, meaning that yet more dollars would be created, thus further weakening the dollar. Bernanke promised he would not do this; however Zero Hedge has alleged that at the Treasury and Agency Bond auctions this week, within 30 minutes of the issue and purchasing of Fannie Mae bonds, they were sold on to the Fed…. If this is in fact the case, then foreign holders of large amounts of US dollars (e.g. China) have every reason to be agitated.
(11) Over the past few years, whenever the dollar has weakened to a significant extent, there has been co-ordinated action by central banks to force its value back up again. This does not appear to be happening this time around….
(12) We are very likely to be at the beginning of a period of sharply increasing volatility in the values of currencies, including gold.
Thank you, Max Keiser and Stacy Herbert
Now we would like to draw your attention to some alarming information, courtesy of Weiss Research. (You can sign up for a free eletter on their Money and Markets homepage.)
The charts speak for themselves….
Hear the word I-N-F-L-A-T-I-O-N anyone?
This insatiable demand for commodities from a rapidly growing China is only going to continue to increase…….
INVESTING IN NATURAL RESOURCES?
DIVESTING YOURSELF OF US DOLLARS?