High-profit risk positions closing out

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Now that European leaders finally understand that perpetual dithering on the sovereign debt and banking crisis could spell death for their economies, it appears that hedge fund managers and traders have collectively decided to progressively close-out those incredibly profitable short risk asset positions. This theme is one we have been highlighting over the past week, and it was again abundantly evident yesterday.

For no very good reason other than stops going off, we witnessed significant advances in risk assets, high-beta currencies and the euro, and another day of major losses for the previously impregnable greenback. The EUR managed to get above 1.38 at one stage – it started this week below 1.34. Cable threatened 1.58 at one point, up more than two figures – a remarkable achievement given the dreadful employment figures. High-beta currencies fared even better – the Aussie powered through parity reaching 1.0233 overnight, helped by strong buying from sovereign wealth funds and numerous stops. In just over a week, the AUD has jumped 8% from its low.

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Commodities are also back in the sweet shop, with Brent crude reaching USD 112 a barrel, and gold touching USD 1,690, now USD 1,672. Given the massive short positions in risk assets and non-dollar currencies that had been accumulated over recent months, it is not necessarily the case that the washout witnessed over the past week is complete although it probably does not have much further to go. Thereafter, we may well see financial markets appear to calm down into calendar year-end, as risk managers essentially close their books.

Commentary

The UK labour market – from bad to worst. Yesterday’s announcement that the ILO unemployment rate reached a 15-year high of 8.1% in the three months to July was shocking on the one hand but not surprising on the other. Also deeply alarming was the revelation that the number of unemployed is now up to 2.57m, a 17-year high. Unemployment in the UK has been hovering around 2.5m since mid-2009. In the three months ended July, the number of people in employment fell 178K to 29.1m. Only 70% of those in the UK labour force of working age actually have a job; only 50% of the UK labour force has a full-time job. Out of a workforce of just over 40m, a staggering 9.35m (23%) are economically inactive, including 3.4m men. If it were possible to calculate an under-employment rate in this country, one which took into account those who are working part-time and who would prefer to work full-time – as well as allowing for discouraged workers etc. – it would be a truly frightening number, quite possibly approaching 20%! Little wonder the Bank of England decided to implement additional asset purchases last week and little wonder that policy-makers continue to pursue a policy of currency debasement. The growth dynamics in the UK at present are quite dreadful and nowhere is this more apparent than in the jobs market. At a time of extraordinary job poverty, and with very little hope of any growth in the economy for some time, surely it is time to consider a more radical approach to lightening the load for the unemployed, such as broad-based job-sharing. It may not solve the country’s ills, but it might help to alleviate some of the pain.   

US Senate rejects Obama’s jobs plan. News that the US Senate rejected the President’s USD 447bln jobs plan was disappointing and did the dollar no favours yesterday. Amongst the measures contained in the bill were a lowering of payroll taxes for workers and investment in public infrastructure. Some Democrats railed against elements of the funding proposals for the package, including tax increases for those earning above USD 250K. The response from the White House was typically indignant, with Obama vowing to put the individual provisions of his jobs bill to Congress. At the same time as Congress is considering this stimulus bill, the committee charged with finding substantive ways to lower the fiscal shortfall continues with its work.

The emerging reversal. It started with Turkey cutting rates early in August then Brazil cutting its benchmark rate at the end of the month. Earlier this week Indonesia cut rates by 0.25% to 6.5%. The August moves were easier to dismiss as one-off events, especially Brazil where the central bank is less than independent of the government which was pushing for lower rates in the wake of fiscal concessions. In terms of emerging countries cutting rates, there could well be more to come. The central bank in Mexico meets tomorrow and a cut in rates (from the current 4.5%) cannot be ruled out, with the authorities having recently pushed through a variety of measures to boost credit growth and private investment in the face of the global slowdown. Over the period 2007-10, it was notable just how much emerging markets managed to decouple from the developed world. The BRICs (Brazil, Russia, India and China) grew nearly 25% over the period whilst output in the G7 fell 1%. Furthermore, the IMF forecasts public debt rising in the developed world in the coming years and falling in emerging markets. Rate cuts, combined with recent currency declines, should bode well for next year, but right now emerging markets are getting sucked into the easing cycle that is developing and which will be a challenge for risk and carry trades going into year-end.

Swiss industry leaders still annoyed by strong currency. Notwithstanding the success of last month’s dramatic intervention by the SNB, Swiss industry leaders remain traumatised by the high level of the currency. For instance, Swisscom’s CEO yesterday stated that it was “unimaginable that the Swiss franc stays at these levels over the next couple of years” because it “would seriously hurt the Swiss economy”. Particularly for those Swiss companies with significant earnings in euros, the weakness of the latter is problematic. No doubt the SNB will take these remarks on board. There has been more speculation recently that the SNB is considering lifting the EUR/CHF ceiling to perhaps 1.25 and possibly even 1.30. Based on the comments made by various SNB officials over recent weeks, such a move is not out of the question.

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