Reply #1: Market WrapUp: Deleveraging & the Case for Stagflation

[ozymandius]

BY CHRIS PUPLAVA

The Japanese yen has started rising against all of the world's major currencies as the yen carry trade may be unwinding. Traders have for years borrowed cheap yen at interest rates near 0% to reinvest those funds throughout the world. When the yen rises the carry trade becomes less profitable and traders will have to sell their assets to close their positions. The yen is not just rising relative to the U.S. dollar, nearing an all-time high, but also against strong currencies in commodity-rich countries such as Canada and Australia who are benefiting from high commodity prices.

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This puts added selling pressure on global capital markets and was seen in last year’s sell-off in February and last summer’s market swoon. Markets did not stabilize until the yen weakened. It is no coincidence that the S&P 500 is breaking down at the same time the yen is breaking out. There truly seems to be shift in the undercurrents of capital markets, and a rising trend in the yen and VIX seem to be suggesting that this time is different.

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Stagflation = Stagnation + Inflation

STAGNATION

Stagnation, or economic growth less than 2-3%, is clearly upon us with rising unemployment, decelerating retail sales, and a housing market in complete disarray. The economic sentiment turned sharply lower in the last few months of 2007 as both consumers and businesses became more pessimistic about the present situation and future. The CFO survey for December hit a record low and the CEO survey released yesterday showed a new low for the current expansion. Here was the main headline from the CFO survey along with the summary of findings. (Click here for report). Note the word “stagnate” in the headline and how employees are cashing out 401(k) accounts to pay for mortgages! (Words in bold for emphasis.)

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Things will get worse before they get better as homeowners cut back spending as they are now feeling the negative side of the wealth affect from falling home prices. Consumer delinquency rates are likely to continue to rise into the end of the year before cresting late in the fourth quarter and into the first quarter of 2009. These timelines were arrived from the relationship between consumer delinquency rates with the Fed funds rate and employment growth, both of which have correlation coefficients 87% and 91% respectively.

http://www.financialsense.com/Market/wrapup.htm