I wrote on Monday that a rally against the Yen and the Euro was in the works for the Dollar. The rally got sparked by the Fed announcement but has reverted completely since then.
As I write this, the Japanese market is falling, while China decided to up the Yuan and oil is up to 110.
We have a situation of extreme unequilibrium (the kind of situation that Soros used to detect new trading opportunities).
The following chart shows the gain that 1 dollar invested in 1 month Treasuries had against oil over time.
The idea behind it is that as a foreigner who sells oil (or any product of which the price of oil is component) and you want to invest the dollars you acquired by selling your product on 0 risk Treasuries, at some points in history you would be making money, and some others you would be losing money.
If you lose too much money financing the selling of your product, you will either withdrawal the product from the market or demand a higher price.
Now, up to 2007, you have been losing money (even as your product price increased, or rather because of your product price increased) whenever you financed the sale of your product. You are not happy, and you request to buy hard assets (think of BAC, Ports, Prime Real Estate, etc.) to keep the value of what your buyer is using to pay you for your asset.
From a very long perspective, you feel that you got the short end of the stick, but still the value of the money they pay you is within historical values (thinks will get better, you think, and you need to keep this customer to keep your economy afloat).
Now, the following chart shows what would happen if the interest rates keep as low as they are and oil closes the year at the, so far, yearly average of $94.15.
As you can see, if oil remains at these levels and the interest rates don't go up, one side of the market (the Treasuries buyers) will lose a lot of money. Since the market is so lopsided, it is bound to correct soon.
A weakening Dollar affects the economies of Asia, Europe and the oil exporting countries, and at some point during this year we shall see this situation correct drastically.
There are several things that can happen. Foreign countries may stop financing US purchases (stop buying treasuries) which would make the interest rates double in a matter of months, regardless of the Fed actions.
Dollar prices may unwind by an action by the petroleum exporting countries of increasing quotas, or saying that they will increase quotas, which will force the selling of over-leveraged speculators and will shave 50% of the price of oil in a few months.
Or, worst case scenario, the US may become unable to keep the current pace of spending, which will send ripple effects to the Asian economies, which will enter a recession and that will make the price of oil go down.
The best exit from a global perspective is the rapid unwinding of the oil bubble, because it would be the one with the least casualties.
In any account, I am keeping an eye on oil on the short side and interest rates on the upside.
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Last update : 20-03-2008 16:26
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