| Author | Message | ||
     Ferris_von_bueller |
Mother of all carry trades faces an inevitable bust By Nouriel Roubini Published: November 1 2009 18:44 | Last updated: November 1 2009 18:44 Since March there has been a massive rally in all sorts of risky assets – equities, oil, energy and commodity prices – a narrowing of high-yield and high-grade credit spreads, and an even bigger rally in emerging market asset classes (their stocks, bonds and currencies). At the same time, the dollar has weakened sharply , while government bond yields have gently increased but stayed low and stable. This recovery in risky assets is in part driven by better economic fundamentals. We avoided a near depression and financial sector meltdown with a massive monetary, fiscal stimulus and bank bail-outs. Whether the recovery is V-shaped, as consensus believes, or U-shaped and anaemic as I have argued, asset prices should be moving gradually higher. But while the US and global economy have begun a modest recovery, asset prices have gone through the roof since March in a major and synchronised rally. While asset prices were falling sharply in 2008, when the dollar was rallying, they have recovered sharply since March while the dollar is tanking. Risky asset prices have risen too much, too soon and too fast compared with macroeconomic fundamentals. So what is behind this massive rally? Certainly it has been helped by a wave of liquidity from near-zero interest rates and quantitative easing. But a more important factor fuelling this asset bubble is the weakness of the US dollar, driven by the mother of all carry trades. The US dollar has become the major funding currency of carry trades as the Fed has kept interest rates on hold and is expected to do so for a long time. Investors who are shorting the US dollar to buy on a highly leveraged basis higher-yielding assets and other global assets are not just borrowing at zero interest rates in dollar terms; they are borrowing at very negative interest rates – as low as negative 10 or 20 per cent annualised – as the fall in the US dollar leads to massive capital gains on short dollar positions. Let us sum up: traders are borrowing at negative 20 per cent rates to invest on a highly leveraged basis on a mass of risky global assets that are rising in price due to excess liquidity and a massive carry trade. Every investor who plays this risky game looks like a genius – even if they are just riding a huge bubble financed by a large negative cost of borrowing – as the total returns have been in the 50-70 per cent range since March. People’s sense of the value at risk (VAR) of their aggregate portfolios ought, instead, to have been increasing due to a rising correlation of the risks between different asset classes, all of which are driven by this common monetary policy and the carry trade. In effect, it has become one big common trade – you short the dollar to buy any global risky assets. Yet, at the same time, the perceived riskiness of individual asset classes is declining as volatility is diminished due to the Fed’s policy of buying everything in sight – witness its proposed $1,800bn (£1,000bn, €1,200bn) purchase of Treasuries, mortgage-backed securities (bonds guaranteed by a government-sponsored enterprise such as Fannie Mae) and agency debt. By effectively reducing the volatility of individual asset classes, making them behave the same way, there is now little diversification across markets – the VAR again looks low. So the combined effect of the Fed policy of a zero Fed funds rate, quantitative easing and massive purchase of long-term debt instruments is seemingly making the world safe – for now – for the mother of all carry trades and mother of all highly leveraged global asset bubbles. While this policy feeds the global asset bubble it is also feeding a new US asset bubble. Easy money, quantitative easing, credit easing and massive inflows of capital into the US via an accumulation of forex reserves by foreign central banks makes US fiscal deficits easier to fund and feeds the US equity and credit bubble. Finally, a weak dollar is good for US equities as it may lead to higher growth and makes the foreign currency profits of US corporations abroad greater in dollar terms. The reckless US policy that is feeding these carry trades is forcing other countries to follow its easy monetary policy. Near-zero policy rates and quantitative easing were already in place in the UK, eurozone, Japan, Sweden and other advanced economies, but the dollar weakness is making this global monetary easing worse. Central banks in Asia and Latin America are worried about dollar weakness and are aggressively intervening to stop excessive currency appreciation. This is keeping short-term rates lower than is desirable. Central banks may also be forced to lower interest rates through domestic open market operations. Some central banks, concerned about the hot money driving up their currencies, as in Brazil, are imposing controls on capital inflows. Either way, the carry trade bubble will get worse: if there is no forex intervention and foreign currencies appreciate, the negative borrowing cost of the carry trade becomes more negative. If intervention or open market operations control currency appreciation, the ensuing domestic monetary easing feeds an asset bubble in these economies. So the perfectly correlated bubble across all global asset classes gets bigger by the day. But one day this bubble will burst, leading to the biggest co-ordinated asset bust ever: if factors lead the dollar to reverse and suddenly appreciate – as was seen in previous reversals, such as the yen-funded carry trade – the leveraged carry trade will have to be suddenly closed as investors cover their dollar shorts. A stampede will occur as closing long leveraged risky asset positions across all asset classes funded by dollar shorts triggers a co-ordinated collapse of all those risky assets – equities, commodities, emerging market asset classes and credit instruments. Why will these carry trades unravel? First, the dollar cannot fall to zero and at some point it will stabilise; when that happens the cost of borrowing in dollars will suddenly become zero, rather than highly negative, and the riskiness of a reversal of dollar movements would induce many to cover their shorts. Second, the Fed cannot suppress volatility forever – its $1,800bn purchase plan will be over by next spring. Third, if US growth surprises on the upside in the third and fourth quarters, markets may start to expect a Fed tightening to come sooner, not later. Fourth, there could be a flight from risk prompted by fear of a double dip recession or geopolitical risks, such as a military confrontation between the US/Israel and Iran. As in 2008, when such a rise in risk aversion was associated with a sharp appreciation of the dollar, as investors sought the safety of US Treasuries, this renewed risk aversion would trigger a dollar rally at a time when huge short dollar positions will have to be closed. This unraveling may not occur for a while, as easy money and excessive global liquidity can push asset prices higher for a while. But the longer and bigger the carry trades and the larger the asset bubble, the bigger will be the ensuing asset bubble crash. The Fed and other policymakers seem unaware of the monster bubble they are creating. The longer they remain blind, the harder the markets will fall. The writer is a professor at New York University’s Stern School of Business and chairman of Roubini Global Economics http://www.ft.com/cms/s/0/9a5b3216-c70b-11de-bb6f- 00144feab49a.html | ||
| Jstfrfun |
OK Ferris, the condensed version for us small buis. simpletons. | ||
| Panhead_dan |
Wow, thats a lot of readin. burp | ||
| Odie |
yes....simplify for me please....there were a lot of $5 words in there... | ||
| Panhead_dan |
OK. I read it and absorbed it. I have the condensed version; We are doomed | ||
| Odie |
That's what I thought...... | ||
| Ferris_von_bueller |
Funny, I was hoping one of you geniuses could decode. | ||
| Wolfridgerider |
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| Oldog |
I'm so tired of Gloom and doom, there is not much any of us can do except live responcibly every talking head with a shingle and a story is spouting some thing about this that or the other Ft_bstrd and a few others have probably rightly called some of this stuff "PORN" can we talk about motor-cycles? , specificaly Buells thanks.. | ||
| Chuck22b |
Wow, go figure, isn't that what a debt based monetary system is suppose to do? Continue the cycle of booms and busts  Basically, what he's saying is that there is a move towards easy money on a global scale, and another potential bust when the fall/drop of the dollar subsides and risky bets actually rear their heads. Meanwhile, we're going to be able to party again like it's 2003 (or at least the rest of the world could at our expense) -chuck22b | ||
| Odie |
I wanna party like it's 1999!!! | ||
| Hex |
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| Midknyte |
I'm so tired of Gloom and doom...can we talk about motor-cycles? , specificaly Buells  er, um, uh, who's gonna tell him? | ||
| Oddball |
"It's the end of the world as we know it".... "I feel fine" | ||
| Hex |
All this gloom and doom is killing our political agendas. I miss our old forum. Is this the Phoenix of political threads???  | ||
| Hex |
simplification: A few people with a lot of money are trying to take over the World. I read this article verbatim. It's really a bunch of rhetoric. FvB's just trolling for attention, as usual. Nice to see things haven't changed. He offers: No solution. No debate. As we add new blood to the fold, cut and paste away... | ||
| Cityxslicker |
If you aint been buying gold and Tamiflu stock since March, you are bout to feel the angst of that. Next, The new 2012 Buell, now with 86% more Armageddon. They Mayans were right, it all goes to shiat in three years. | ||
| Hex |
Pessimist. I'm in Court's court. | ||
| Crusty |
THE SKY IS FALLING!!! THE SKY IS FALLING!!! | ||
| Panhead_dan |
"They Mayans were right, it all goes to shiat in three years." Actually that may not be entirely accurate. According to scientists, this alignment of celestial bodies has happened before and will again. It wasn't the end of the world then and there is no reason to think it will be this time. No one knows for sure just what WILL happen but historicly speaking, our planet will remain. It will be interesting to say the least. | ||
| Panhead_dan |
I recently found out something interesting about 2012; Watching a Nova or Discovery channel show recently about space, they shared some facts about the Galeleo (sp) craft that was launched what, 30 years ago? At the time it was told that it's purpose was to "fly by" planets in our solar system and transmit photos and data back home as it went. Then it was off to deep space, never to be heard from again. On board were several interesting articles like portrayals of a mans physiqe, some kind of music and something like "hello!" recorded in every language on a gold cd. Something like that. Anyway, what they never said or maybe I never caught till now was that it's trajectory was engineered to line right up with the planetary alignment both in space and in time. Yes, they aimed it to fly right down the pipe, aimed at the black hole in the middle. The most recognizable path it could ever be for the purpose of being found by another intelligent race. A calling card wedged into the neighbors door, so to speak. | ||
| Greenlantern |
As long as those jerkholes from Rigel III don't find it. Those guys suck! | ||
| Fast1075 |
Nobody has mentioned how good OKRA is!!!! OKRA!!!!!! Yummmmmmmm. Oh...and I'm doing what I can for the economy..I recently bought a truck...a bike...and spread some love to a few sponsors by buying goodies... Damn the doom and gloom...full speed ahead! (I figure at my age...it's do it now or forgeddaboutit). | ||
| Panhead_dan |
Maybe it's not doom and gloom. Maybe it's "change". Maybe it's the inevitable future and maybe it is GOOD. In the short term, "change" is painful and hard to accept but if the end result is suficiently better, it's worth it. Too bad the end result doesn't have a bright light shining on it. (or does it?) | ||
| Midknyte |
Actually, the Mayan calendar is cyclical. It's simply starting over in 2012. Although that rollover is associated with calamity. Half full or half empty? | ||
| Swordsman |
Pfft, Mayans aren't so smart. See any around lately? Their time was up way ahead of schedule. | ||
| Cityxslicker |
It will be every bit of stupid as Y2K was. It aint the end of the world (duh) but it will be the crux of the next mass hysteria and global anxiety. There will be shortages, hording, speculation, looting and good old fashioned civil unrest. Buy your gold and ammo now, you can always sell them later at an amazing profit I know my bank account appreciated the uptick from the paranoia eight years ago. Never underestimate the buying power of unfounded fear  | ||
| Ferris_von_bueller |
I read this article verbatim. It's really a bunch of rhetoric. FvB's just trolling for attention, as usual. Nice to see things haven't changed. He offers: No solution. No debate. First off, genius, the author of the article was one of the few people who saw our current economic mess before it occurred. Secondly, I do have a solution. Forty 1.5 megaton nuclear weapons - start over | ||
| Etennuly |
The thing is if you have what you came into this World with you are fairly safe. Ya can't loose nothing. If by chance you have exceeded in your lifetime, beyond nothing, then you have work to do, and you will have to be paying attention to what is going on in order to protect your assets. To asset, or not to asset.....  that is the question. And to further that, if asset here and do nothing, will there be no asset to be had? or will I have asset. I believe asset here at this 'puter too long, my brain is locked up(should have got the Apple). | ||
| Crusty |
An Apple a day keeps the Doctor away. And an onion a day keeps everyone away! | ||
| Hex |
First off, genius...  | ||
| Easy_rider |
there is not much any of us can do except live responsibly You mean I shouldn't have bought my 1125 on credit? |
