From Doug Nolan at creditbubblebulletin.blogspot.com:
“Shock and awe” is not quite what it used to be. It still carries a punch, especially for traders long the Japanese yen or short EM and stocks. The yen surged 2% against the dollar (more vs. EM) Friday on the Bank of Japan’s (BOJ) surprising move to negative interest rates. BOJ Governor Haruhiko Kuroda has a penchant for startling the markets. Less than two weeks ago he stated that the BOJ would not consider adopting negative rates. It wasn’t all that long ago that central bankers treasured credibility.
For seven years, I’ve viewed global rate policies akin to John Law’s (1720 France) desperate move to hold his faltering paper money and Credit scheme (Mississippi Bubble period) together by devaluing competing hard currencies (zero and now negative rates devalue “money”). It somewhat delayed the devastating day of reckoning. Postponement made it better for a fortunate few and a lot worse for everyone else.
Last week saw dovish crisis management vociferation from the ECB’s Draghi. Now the BOJ adopts a crisis management stance. The week also had talk of some deal to reduce global crude supply. Meanwhile, the Bank of China injected a weekly record $105 billion of new liquidity. Nonetheless, the Shanghai Composite sank 6.1% to a 13-month low. There was desperation in the air – along with a heck of a short squeeze and general market mayhem.
Markets these days have every reason to question the efficacy of global monetary management. It’s certainly reasonable to be skeptical of OPEC – too many producers desperate for liquidity. The Chinese are flailing – conspicuously. As for the BOJ’s move, it does confirm the gravity of global financial instability. It as well supports the view that, even within the central bank community, confidence in the benefits of QE has waned.
After three years of unthinkable BOJ government debt purchases, Japanese inflation expectations have receded and the economy has weakened. Lowering rates slightly to negative 10 bps (for new reserve deposits) passed by a slim five to four vote margin. With the historic global QE experiment having badly strayed from expectations, there is today no consensus as to what to try next.
Kuroda remains keenly focused on the yen. After orchestrating a major currency devaluation, there now seems little tolerance for even a modest rally. The popular consensus view sees BOJ policymaking through the perspective of competitive currency devaluation, with the objectives of bolstering exports and countering deflationary forces. I suspect Kuroda’s (fresh from Davos) current yen fixation is more out of fear that a strengthening Japanese currency risks spurring unwinds of myriad variations of yen “carry trades” (short/borrowing in yen to finance higher-yielding securities globally) – de-leveraging that is in the process of wreaking havoc on global securities markets.
Notable Bloomberg headlines: (Thursday) “S&P 1500 Short Interest Is at Its Highest Level in Three Years.” (Friday): “Hedge Funds Boost Yen Bets to 4-Year High Days Before BOJ Shock.”
Bearish sentiment is elevated. Recent global tumult has spurred significant amounts of hedging across the financial markets. And, clearly, betting on “risk off” has of late proved rewarding (and gaining adherents). Draghi and Kuroda retain the power to incite short squeezes and the reversal of risk hedges. And central bankers can prod short-term traders to cover shorts and return to the long side. Yet the key issue is whether global central banks can propel another rally such as the 12% multi-week gains experienced off of August lows. Can policy measures resuscitate bull market psychology and reestablish the global Credit boom?
Subtly perhaps, yet the world has changed meaningfully in the five short months since the August “flash crash”. After exerting intense pressure and direct threats – not to mention the “national team’s” hundreds of billions of market support – Chinese equities traded this week below August lows. It’s worth noting that Hong Kong’s Hang Seng China Financials Index now trades significantly below August low.
To continue reading: About Resuscitation and Reinstatement
