The Symposium of Death

First a correction. We included two VIX charts yesterday. That was an error. One of them should have been the chart you see below, showing the Australian Dollar/Japanese Yen exchange rate. This chart shows, we reckon, that the ‘carry trade’ is on again and that investors borrowing in Japan could be using that money to buy Australian assets.



As we wrote yesterday, the chart shows the Australian dollar hitting a four-year high against the Japanese yen. We’ve been keeping our eye on this chart and want to ask Murray about it now that he’s back in the office. On a technical basis, the 50-day moving average has crossed the 200-day moving average, which is usually bullish. But the Relative Strength Index (RSI) is over 70, which usually means a security is overbought.

The S&P/ASX 200 touched 4750 in the first two hours of trading yesterday. But it couldn’t hold the early gains and slipped back by the close. Purely on a technical basis, you’d expect the market to take a breather. But you never know.

The trade figures for November come out today, though, and that should be interesting. They won’t include December’s record volume of iron ore exports from Port Hedland. Seatrade Online reports that iron ore exports to China were up 20% in December at Port Hedland. A record 20.23 million tonnes went to China alone and 26 million tonnes total went out in December.

Even without those December figures included in the November trade data, you’d expect to see an increase in export prices and volumes. But – here’s the big question – will imports go up even more than exports? If Christmas shoppers started early, then there may have been more books, jeans, and bikes coming into Australia than iron ore and coal going out.

Of course the real issue is whether Australia’s chronic trade deficit really matters. There’s a whole school of academic thought that says it’s no big deal. And there’s a whole school of economic thought that says a nation cannot get richer by consuming more than it produces. Eventually, that nation lives on borrowed money and borrowed prosperity.

Speaking of the banks, remember that note we published yesterday about global liquidity rules being softened on their behalf? Well, today’s Australian Financial Review reports the delay in implementing the Basel III liquidity reforms will save Australian banks about $70 billion. By ‘save’ we mean the banks will not have to set aside $70 billion in liquid assets in case of an emergency (because those never happen).

Without getting caught up in the technicalities of the regulations, this is really about whether you can have more economic growth without getting rid of all the bad debt in the global system. That’s what the bankers are aiming for. And to some extent, it makes sense. We live in a debt-based economy. It requires ever greater amounts of debt to keep growing.

If it’s not growing, it’s falling apart. Everything bankers have done since 2009 has been designed to prevent that falling apart. By ‘falling apart’ we mean overvalued assets returning to their intrinsic value (whatever that happens to be). This is what you might call ‘asset deflation’. And it’s precisely the issue we discussed in ‘Exter’s Prophecy‘.

If you have a lot of free time and red wine, it’s an interesting debate to have; is deflation possible in a fiat money system where central banks can theoretically create an infinite amount of money? But if you don’t have a lot of free time and are not a fan of red wine, watch the 30-year US Treasury bond yield. See below.



The chart above is an index based on the 30-year US Treasury Bond yield. You can see that 3-year yields started trending down in the second week of March, 2012. That’s when the Fed released a statement committing itself to ‘exceptionally low levels for the federal funds rate at least through late 2014.’ By shifting the composition of its bond holdings to longer maturities, it ‘pushed down’ long-term interest rates.

But those rates reversed course in late July of 2012. They’ve been trending up ever since. And now they’re at an interesting level. The chart shows the 50-day moving average getting ready to cross the 200-day moving average. But the Relative Strength Index (RSI) is awfully close to 70, suggesting to us the trend may be out of steam for a bit.

The core issue here is whether the bond market is a good warning signal about inflation worries. The ‘bond vigilantes’ used to punish profligate fiscal and monetary policy by selling bonds, pushing prices down and yields up. You don’t want to own fixed income in an inflationary environment.

However, ever since the Fed became the world’s largest currency manipulator, bond yields have been pretty useless as warning of inflation…or really for communicating any useful information at all. The same could be said of stocks, of course. But if the bond market starts to finally show signs of restlessness or displeasure, all bets are off.

In the meantime, the beat rolls on. On a somewhat unrelated but depressing note, we see US President Barack Obama has nominated his counterterrorism advisor John Brennan to be the next head of the Central Intelligence Agency. Brennan will presumably take his ‘Symposium of Death’ from the White House to Langley, Virginia, where the CIA is headquartered.

We say ‘Symposium of Death’ because Brennan is the man who counsels the President on whom to kill by drone strike. It’s an ‘extra judicial’ process, which means a handful of people are deciding whose life to end with death from above. Obama greatly expanded George Bush’s use of drone since coming to office in 2008. There have been over 300 US drone strikes since 2008, with an estimated 2,500 casualties.

You don’t hear much about the drone war because it enjoys bipartisan support in America. Terrorists aren’t in uniform. They’re everywhere. Drones cross borders and hold the promise of precision execution without having to put ‘boots on the ground’. That’s clean and efficient, even if you’re killing your own citizens abroad.

There are plenty of principled objections to the use of drones in making war. But the most practical objection is that the US advantage in drone technology is only temporary, whereas the precedent of sending drones across borders to rain death on whomever you choose is permanent. It won’t be long before everyone is using drones…to kill whomever they’d like.

Of course right now, the only drone anyone in Australia is talking about is the ‘Fox Copter’ covering the Big Bash Cricket tournament. It’s kind of cool. But then, it’s not shooting a missile at you either, at least not yet. And maybe it will only ever be used for benign purposes, like providing extra perspective at sporting events, or monitoring traffic, or patrolling the streets at night, or peeking in your window to make sure you’re not doing anything you shouldn’t be.

Dan Denning,
For Markets and Money

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