Markets Are Dropping

If this is a the start of a general risk-off phase, what is happening that I got wrong?

  • The improvement in US data is not enough to offset the fall in the probability of QE3 that it has caused. I think that Bernanke’s put on the rate of improvement in the labour market should be enough to keep markets moving upwards.
  • The completion of the Eurozone LTRO is a tightening. I think that the important thing is the ECB’s move to a more doveish stance is the important thing. I don’t think the market took the LTRO’s as anything other than a one-off action to solve a particular problem; the market should continue to expect similar action if the same problem arises again; so I cannot see why there should have been a tightening.
  • Markets are reacting to high oil prices sooner than I expected. I think that markets will continue to be driven by macro fundamental data and so will remain on an upward track until high oil prices start to have noticeable effects on the economy.

I went to a UBS breakfast this morning to talk about such things, and I think that I have been too slow to grasp the importance of the rally in oil. I have had in mind the QE-driven rally in oil in late 2010 (based on rising demand expectations) as a model, but I should have been more careful: the Libyan experience is a much better model for the current situation, and markets started to roll over as oil prices spiked on that situation. The danger from Iran is all supply-side; the argument in my third bullet-point above is fairly stupid. Markets will be much less inclined to be relaxed about a supply-driven rally in oil than a demand-driven one.

I have been slow to notice the effect of the falling probability of QE3. Various FOMC members have seemed eager in speeches this week and last to grasp at any excuse not to do another round of easing, and to fret (needlessly in my opinion) about inflation. After Bernanke’s last press conference I said that QE3 was quite possible with the rate of improvement in unemployment on its then-current track and very likely if the situation were to deteriorate. But the situation has actually improved since then. That QE3 would become less likely in this situation is coherent with my view — but I have been slow to grasp the point explicitly, and have told myself that it is a marginal change and not the most important thing (which I thought was the Fed’s new willingness to do any easing at all). But the market takes a different view, as shown by falling 5-year breakeven inflation (lower expected inflation is an indication of monetary tightening in the present environment). I should have been alive to this danger.

As it is, I had already moved my copper stop to my entry point because I was losing confidence in my views and was not prepared to lose money on a catch-up trade. I have been stopped out today for no loss. What I have missed out on is the chance to bail out for a small profit (not something I like doing, but I would have done if I had written this piece yesterday — ho hum).

Incidentally, my short USD/JPY position is coming my way on the sell-off. I am not predicting a new risk-off phase — I do not feel I have enough of a grasp of the situation to make a prediction at present — but if there was a new risk-off phase, this trade ought to benefit. Thus, since I have lost nothing in copper, I should make money even if I have been completely wrong.

European Bank Deleveraging

Are European banks going to sell a lot of assets in order to hit their 9% CT1 targets? A note from Nomura, via Alphaville, suggests not. It reports that the average European bank cut risk-weighted assets by 2.3% (not annualised) in Q4 by the methods of modest asset sales and signficiant “model enhancements”. Most large-cap banks have consequently signalled compliance with the 9% target already, well before the June deadline. I presume the EBA still has to accept “model enhancements” as a way of increasing capital, but given the general recognition that the whole exercise has been a mistake — Mario Draghi practically said as much at a press conference — these measures are likely to get through. This means that there is unlikely to be a fire-sale of assets by European banks. For me, that is something of a disappointment.

Greek GDP Forecasts

At the weekend I was reading “Economic Forecasting and Policy” ( and came across a chart that showed the variability of European GDP forecasts in the 2000’s. Even the chart from 2000 to 2004, a period of calm prosperity, the European Commission’s growth projections were miles off the mark. I thought this was a reminder of how ridiculous the whole Greek writedown exercise really is, based as it is on forecasts out to 2020.


  • Eurozone retail sales 0.3% b.e. Jan.
  • ISM non-manufacturing PMI 57.3 b.e. and rose.
  • Factory orders -1% b.e. Jan
  • Australia current account deficit widenend in Q4, ~a.e.
  • UK Halifax HPI -0.5% d.e. Feb.

Next 24 Hours

  • Australia GDP
  • German Factory orders