|By Matein Khalid| The plunge in crude oil after OPEC’s Vienna conclave, Dr. Draghi’s failure to resist Bundesbank pressure not to fire another ECB easy money bazooka, Wall Street’s junk bond debacle and an imminent rise in the Fed Funds rate for the first time since 2006 will all shape the next big trades in Planet Forex. The Euro has risen to 1.10 on Draghi’s failure to deliver a “shock and awe” even though the ECB refinancing rate has fallen to minus 30 basis points. Position squaring took the US Dollar Index 2 points below its recent 100 peak. In foreign exchange, the trend is your friend until the trend comes to an end – and the primary trend is unquestionably still King Dollar. The collapse in crude meant we finally achieved our target of 1.36 on the Canadian dollar, a trade (buy US dollar/sell Canada) I had initiated when the loonie was 1.06. The Canadian dollar fell 25% since I recommended investors short it in 2014, generating windfall profits for investors/friends in Dubai who followed my investment thesis on the loonie.
The Fed rate hike, 211,000 in November non-farm payrolls, the China/commodities bust and geopolitical risks from Ukraine to Syria/Iraq all argue for broad US dollar strength in 2016. Despite the ECB shock in December, I believe King Dollar boasts the best economic growth, consumer credit, banking system risk and interest rate differential metrics in the world. Despite the hype on China’s inclusion in the IMF Special Drawing Rights (a currency only useful for Third World basket cases that Uncle Sam decides to bankroll!), the US dollar will remain the world’s reserve currency and will benefit from safe haven flows in a dangerous, illiquid bond casino.
The lack of aggressive ECB easing only postpones, not negates, the path to parity between Euro and the US dollar. The two year US Treasury. German Bund interest rate spreads, the political risks in Europe (Marine Le Pen, the refugee crisis, risk of terrorist attacks, the future of chancellor Merkel) and reserve selling by central banks all indicate a weaker Euro/dollar rate in 2016, possibly as far down as 0.95 Wim Duisenberg era levels. The ECB and the Federal Reserve will not be able to gloss over the divergence in economic performance between a Europe exposed to the Chinese hard landing and a US boosted by accelerating economic data momentum. King Dollar will reign supreme in 2016.
In foreign exchange, it is morning in America. The unemployment is 5%. The US Treasury market yield curve steepening will fatten bank profits. Auto sales have exceeded pre credit bubble levels. Global central banks scramble to sell gold and buy the hard money King Dollar. Despite Washington’s political dysfunction and the comical idiocy of Donald Trump and his Seven Dwarfs, Uncle Sam has slashed his budget/current account deficits, recapitalized the world’s safest, biggest banking system and now leads the G-10 in monetary policy normalization. This will means King Dollar will continue to rise against the Euro, the Japanese yen, the Swiss franc, the Canadian dollar and the emerging market currencies. This much, at least, is curtain. The South African Rand has fallen to all time low at 15 to the US dollar and President Jacob Zuma fired his Finance Minister. The Turkish Lira has fallen 40% as hot offshore capital flees the money souks on the banks of the Bosphorus.
I expect the Canadian dollar to remain the sad sack currency of the Group of Ten. The US Treasury-Canadian government debt yield spreads are the widest in almost a decade and will rise by another 150 basis points as the Fed tightens while the Bank of Canada actually eases. So while I recommend investors take profits on the short Canada trade before the December FOMC since it has been so hugely profitable since the 1.06 entry level, I do not believe the Canadian peso (oops!) has any bullish resilience. In fact, sometime in 2016, I see the Canadian dollar fall to 1.45. The election of Justin Trudeau and his economic policy team has only added to my bearishness on the loonie. With West Texas crude at $36, the loonie is toast.
The exodus of global investors, the Chennai tragedy, BJP political defeat in Bihar, higher US borrowing rates, an imminent systemic banking credit crisis means the Indian rupee will depreciate to 72 by summer 2016. The oil crash will trigger a Russian rouble crash to 72-74. In Southeast Asia, I remain negative on the Thai baht, Malaysian ringgit and Singapore dollar. Despite the iron ore crash and a global dairy glut remain long the Australian dollar against the New Zealand (Kiwi) dollar.
Market View – Asian banks and the coming credit crunch
The smoke signals from the world’s central bank define my macro angst. Take India, the jewel in my short sale crown. I find it amazing how many investors are still bullish on Indian shares and bank credit even though the RBI has now sworn to clean the manner in which banks classify, fudge and hide non-performing loans. In effect, this means Dr. Raghuram Rajan will force bank chief executives to boost provisioning rates on “restructured loans” with peekaboo accounting. This means Indian banking faces a regulatory/earnings shock of (forgive the tired awful cliché!) Himalayan dimensions. At the very least, this means curtain Indian bank shares will be a license to make money on the short side as earnings growth expectations are crushed on Dalal Street. The Indian economy will face a bad debt tsunami that could be near $200 billion and hit bank credit growth. I cannot see how India’s go go public and private banks, with their corporate ties to near bankrupt oligarchs and a consumer credit bubble time bomb, could well lose 20-30% in market cap and see their credit ratings downgraded at least two notches in 2016? Who? I will not name specific banks for obvious reason but the cognoscenti in Indian finance know exactly what I am talking about.
I had grown nervous on Japan at 20,000 Nikkei and 123 yen. However, I am not comfortable even at 19000 Nikkei and 121 yen since Bank of Japan Governor Kuroda will do squat on more easing until the sakura cherry blossom garlands the sacred slopes of Mount Fuji, where the spirits of the divine wind (kamikaze?) float amid the mist, the fog and the teardrops of the Sun Goddess. The next big Bank of Japan move could happen in April when the yen could well be trading at 115 to the US dollar. This means there is a bloodbath in the near future for leveraged investors in Japanese equities. Note that the Japanese yen had its strongest bid in the foreign exchange market since August. Yen hedged Japan was a license to print money since 2012 because I could “divine”, as the French put it, the twists and turns of monetary policy and its impact on Maranouchi and yen debasement, the only arrow of Abenomics that seemed to work. That was why I went gaga for investors to buy Japan Inc. on Nikkei 8000 and buy dollar/yen at 78 the day a close friend from Penn steeped in the history, culture, economics and banking system of the Eight Celestial Islands briefed me on the impact of Shinzo Abe’s landslide win on the Empire of the Rising Sun. This means TOPIX plunges to 1400 by April and Japanese megabanks are leprosy to own.
The 40% plunge in the Turkish lira and Malaysian ringgit bas taught Gulf bankers, investors and sovereign wealth funds a hard lesson against investing in economies with poor governance, leveraged banking systems, corrupt political elites and hyper-volatile hot money capital flows. I had recommended investors short Turkish banks in autumn 2014, a 50% profit in 2015 for a UAE dirham investor. So what is the next big short idea in Asian finance? When crude oil falls 45% in eight months, my instincts tell me it is not just the Saudi/Russian/US shale engineered glut but a deflation shock wave that will gut the world’s bank and corporate credit markets. So I look at Indonesia, Jakarta has rejoined even though it is a net oil importer, which means Jokowi will never dare order an oil production cut.
Now higher US rates are the kiss of death for the Indonesian rupiah borrowing costs in US dollar will at least triple in 2016, a financial Black Death for leveraged corporates from Bombay to Jakarta, Istanbul to Kuala Lumpur, already devastated by mediocre global growth and a shrinkage in world trade. So 14 times earnings means 2015 is the year of living dangerously in the Jakarta.
I began to visit Bangkok on business after the September 2006 military coup that toppled the populist Thai Rak Thai leader Thaksin Shinwatra. 2006/15 has been Thailand’s tragic lost decade and Siam is still under military junta rule under General Prayuth. I cannot see how General Prayuth can boost economic reform or return Thailand to civilian rule even as the revered 86 year old King Bhumibol is ill. The macro omens (export, consumer debt, growth) are awful. The Fed/China shocks will hit Asia’s Detroit hard. I am very bearish on Thai banks and the baht, which can depreciate to 38.
Macro Ideas – Risk, ruin and the unknown unknowns of finance
“Gaze not into the abyss lest the abyss gaze back” Nietzsche warned us. The abyss in global finance is gazing back in 2016. Petro-sovereign wealth funds from the Arabian Gulf to Angola/Nigeria, Norway to Malaysia will sell at least $2 trillion in assets in 2016-18 if oil prices stay weak, as they surely will. Saudi Arabia’s budget deficit is 20% of GDP and the kingdom is borrowing in the Saudi riyal bond markets. Qatar’s sovereign wealth funds suffered devastating losses on the epic plunge in spot LNG and strategic stakes in Volkswagen, Glencore, Credit Suisse, Barclays etc. Nigeria has devalued its naira by 25%. Russian capital flight is the highest since the fall of the USSR as the ruble has collapsed 50% to 70 against the US dollar. The shock waves from forced sovereign wealth selling will gut the world’s commercial property markets, infrastructure and private equity funds. Tight money from the Fed will de facto shut down the IPO market for borrowers from oil exporting countries, including the GCC. All the GCC investment banks, contractors, private equity health care platforms who hope to go public have zero chance of selling shares in an IPO in London, New York or any real, regulated, non-rigged, non-casino Third World stock exchange.
Index funds and leveraged funds have become forced sellers in high yield corporate debt just as liquidity vanishes from Wall Street, thanks to the financial genius Barney Frank, once Congressman of the People’s Republic of Massachusetts. A tsunami of index/sellers in an illiquid dealer market with no real buying interest. Smart money is also fast money that moves at the speed of light and spreads contagion across the hyper-kinetic, ultra-volatile netherworld of the global capital markets.
The third avenue fund freeze has magnified the bloodbath in the world’s illiquid, speculative and high yield bond markets. This financial Frankenstein has begun to run amok (Malay word, la, as is ringgit!) in world finance. My friends who are junk bond specialists in New York/London expect $100 billion in energy defaults as Brent falls below $30. This is the reason trading volumes in Wall Street’s high yield bond index funds have tripled as the smart money flees in panic. High yield spreads have now spiked to 2009 levels. There is $10 trillion in unhedged debt from emerging market banks, governments and corporates that will lead to a global credit crunch and evoke the malign ghosts of 1991, 2001 and 2008-9.
It is not the risk you know that kills you but the risk you never dreamt existed, Donald Rumsfeld’s unknown unknowns. I was once obsessive about my kids wearing arm floaters when swimming in Asian resort paddle pools on our Christmas week holidays. We were in Sri Lanka’s Tea Factory but I had originally planned to go to Phuket with my wife and (then) 8 year old twins. But for the grace of God, I would have been in Phuket on December 24, 2004, the day the Asian tsunami claimed the lives 250,000 souls.
Several top banks in Dubai who once invited me to address their elite clients now ignore me because they do not like my bearish message on asset markets. Sad but true. Yet ostriches rarely out run predatory a panther in the African savannah or in financial markets. There are multi-billion dollar vested interests all over the world in finance, politics and media that cannot bear to have someone independent tell the truth to the world. Who would ever buy a joke hedge fund if they knew the entire game is rigged against them by the fund sponsor? Why bother robbing a bank when you can simply found and operate a bank? Information is a classic currency of power and billions of dollars are spent in communicating financial misinformation to dupe Joe Public as the leveraged lambs are fleeced and then led to the slaughter. The public learns the hard way that banditry and wealth management are not mutually exclusive professions. In a world of institutional lies in finance/media, the act of telling the truth is subversive. So people ignored me when I said crude oil would fall from $100 to $35. I was called a perma-bear when I said Russian, Brazil and Chinese equities could fall by 50% in 2013 while in exile on Magic Planet. My NRI friends in Dubai still remain India bulls.
Belief, in Latin, is credere, the root of the English word credit – and credibility. Without credibility, there is no credit. Risk is a four letter word. So is ruin.
