My Diary 637 --- A Miserable Week Ended With Hope?

My Diary 637 --- A Miserable Week Ended With Hope?

May 21, 2010

X-Asset Markets Performance

The miserable week ended with a slight hint of a pause in the recent massive de-risking. Global equity markets edged up on Friday after a week of large declines that leaves the YTD move down 5.4%. On the weekly basis, the world equity lost 4.88%, with -4.26% in US, -3.41% in EU, -6.01% in Japan and -4.44% in Emerging markets.

Looking across asset markets, there are some signs of a pulse in risk appetites which could be found in Friday’s commodities and currencies. Oil prices rebounded with 1MWTI price strengthening $2 to $70/bbl. Commodity currencies rallied, while JPY go sold off on Friday with EURJPY (113.13) +2.56%. In addition, EUR strengthened for a fourth straight day, rising 1.83% on Friday to 1.2570USD.

 

However, interbank lending stresses have continued, with 3M LIBOR, LIBOR-OIS spread and 2yr USD swap spread widening further. Each now stands at their highest levels since August 2008. The UST yield curve flattened a bit, with 2YR rising 6bp to 0.764% while 10YR rose 3bps to 3.24%. Since late April, the curve has flattened 26bp.

Market Thoughts and Outlook

On a weekly basis, the risk market started to melt down after German government had announced a ban on "naked" shorts which gave market participants the excuses to believe that something grave was afoot. However, from the broader picture perspective, global markets sent out an important message, which is, the de-risking activities are not just about Europe. Indeed the risk markets took a major hit on Thursday with the Dow tumbling 376 ppts and 10YR UST hitting 3.19%. Meanwhile EUR soared to 1.26 from a low of 1.23. This definitively tells that the risk markets are focusing on a bigger theme --- the now declining global economy (including Eurozone economy, Chinese exports plummeting, and the US consumer retrenching again as Claims rise anew), after inventory rebuilding, and the passing of the overleveraged burden from the private sector to the sovereign sector.

Having said that, it seems that the major central banks and governments are out of bullets (due to ZIRP, explosively expanded B/S, and inability to raise more debt) leading to the renewed concerns of deflation. And it appears as if the big macro hedge funds and other major risk players have figured out that they have to liquidate first and figure out why later.

Macro wise, the Department of Labor released data on Friday showing that US initial unemployment claims had increased to 471K from 446K (Last report= 444K). Market had expected claims to drop to 440K. Continuing claims for the prior week dipped to 4.625mn from 4.665mn (Last report= 4.627mn). Economists had predicted continuing claims would dip 27K to 4.6mn. Historically, a level of ~400K weekly claims had been correlated with payroll growth, but there has been an obvious disconnection between the claims and headline payrolls data recently. Still, claims are at a higher-than-expected level given the current rate of reported layoffs.

In Europe, the real reason that EUR reversed so hard is mainly because  technically the currency had hit the 50% Fibo retracement of EUR’S total 11-year range (0.82 -1.60)  at 1.2134, which was always a value that would draw in huge short covering. Big global macro funds were covering since then. Looking forward, the key is where they decide to sell again. However the other market rumors do present smoke before fire - with the German government in charge, rumors of Greece leaving EMU, and the Italian government allowing banks to cease mark to markets. It seems possible that Germans are designing a restructuring of Greek debt (perhaps a 50% haircut and tell them if not, leave the Euro) and then use the bulk of the IMF/Eurozone/ECB resources to ring-fence Portugal and Spain.

Back to home, HK& China markets headed to south during the week amid the unstable overseas market and mixed attitude of Chinese government on further tightening policies. The sentiment is changing a bit on Friday as investors are talking about the possibility that government may delay the tightening policies regarding the exporting falling down after the EU sovereign debt crisis. The postponed implementation of the property tax in Shanghai helped also boosted the A-share property names (+3.96% on Friday). With respect to the PBOC’s open market operations, it seems the government still do not want to stop the tightening but also try to maintain the current balance, The PBOC raised the yield on 3-months CBN for the first time in the past 4 months while they sold 3-Year Bills at Yield of 2.7%, cutting 2bp from the last time. It reflects its solution to continue withdrawing liquidity from the market. Furthermore, the investors remain cautious to the valuation in A-share market. During this week, some local brokers started to revise down the earning forecast in property sectors. Considering the worst time in 2008, people would say the current PE/PB is relatively high and downside risks are still there.

Valuation side, MSCI China is now traded at 11.1XPE10 and 25.9%EG10, CSI 300 at 15XPE10 and 32.4%EG10, and Hang Seng at 12.8XPE10 and 25.4%EG10, while AxJ region is traded at 10.9XPE10 and +36.7%EG10.

Good night, my dear friends!