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PIVOTAL EVENTS - May 27, 2010
Signs of the Times

Bob Hoye
Institutional Advisors
Jun 2, 2010

The following is part of Pivotal Events that was published for our subscribers, May 27, 2010.

Signs Of The Times

Last Year:

"Treasury Secretary Timothy Geithner is betting that U.S. Banks can do something their Japanese counterparts were unable to accomplish in that country's 'lost years' of the 1990s – earn their way out of trouble." -Bloomberg, May 8, 2009

"U.S. To suffer hyperinflation approaching levels in Zimbabwe, which reached 231 million % in July." -Bloomberg, May 12, 2009

* * *

This Year:

"Chavez asks Venezuelans to tweet on speculators" -AP, May 16, 2010

The article also reported that Chavez accused speculators as "thieves that should be denounced."

The irony is supreme – Chavez's blundering around in policy land has destabilized the economy and the classic thing to do is lay the blame on speculators.

This one goes along with President Sarkozy's boast that the "Shock and Awe" bailout of Greece would ruin the speculators. This adds to the list of "who-to-blame" when a forecast or expectation does not work out.

Econometricians have had a term to rationalize when ordinary predictions don't work out and that is "exogeneity". For something bigger there is "super exogeneity" and a quick check of the net shows that it is still a hypothetical possibility and not yet a reason for missing a big event.

In routine policymaking, too strong of an economy was rationalized as an "overshoot". Naturally, the opposite was an "undershoot". More practical minds would call it a natural business cycle.

As recent unplanned distress has instructed, an "undershoot" has become a debacle forced by unscrupulous speculators. That is despite the Fed running the most speculative policies in its sordid history.

Of course, the classic blame occurs whenever a silver bug's supply and demand forecasts don't work out. The problem is always a "conspiracy" by policymakers.

Goes around, doesn't it?

"Consumer Confidence Jumps by Most in Six Years"

"American's Spirits are Lifting" -Bloomberg, May 26, 2010

"European debt crisis probably won't derail the U.S. or global economic recovery." -President of St. Louis Fed, Bloomberg, May 25, 2010

"The M3 money supply in the United States is contracting at an accelerating rate that now matches the decline seen from 1929 to 1933, despite near zero interest rates and the biggest fiscal blitz in history."

"'It's frightening," says Professor Tim Congdon.'" -Telegraph, May 26, 2010

The article was by Ambrose Evens-Pritchard who was timely with his understanding of changes in the credit markets in June-July 2007.

It is worth adding that the last time interest rates declined to zero was during the post-1929 contraction. During the post-1873 contraction the Bank of England's discount rate plunged from 9 percent to 2.5 percent.

Plunging short rates in the senior currency is one of the identifying indicators of the early stage of a Great Depression. As is perplexed policymakers.

* * *


Our April 22nd edition observed that "The ladies are back. On the quest for Lady Bountiful, Rosie Scenario leads to Goldilocks – only to find Mother Nature waiting."

Often Mother Nature has something other than Lady Bountiful in mind. This time it was the revelation of a sudden loss of liquidity in stocks, corporate bonds and commodities.

That April 22nd edition also included our checklist for an important top in the stock markets and concluded it was at hand. This also reviewed the "helpers" such as crude oil and base metals had reached timing and momentum targets. The advice was that investors should increase the rate of selling and that traders could play the short side.

In facing a number of "discoveries" that Greece was "fixed" or not "fixed", that Thursday's conclusion was:

"Today's report 'Greek debt crisis gets worse as EU revises figures' reveals an ongoing problem that will 'suddenly' be viewed as really bad when the stock market rolls over."

The key paragraph was:

"This describes the condition of the stock market and the concluding event will be the senior indexes setting a lower low on a weekly basis."

That occurred on the Tuesday before the "Flash Crash" on May 6.

The slump has been driven by an impressive loss of liquidity, which has been more severe than we could have guessed. Nevertheless, and as noted by Ross in Friday's ChartWorks, the stock market became oversold enough to prompt a relief rally that could be short lived.

The ChartWorks will be watching for the next exit.

There are some measures on the degree of the hit.

The Ted Spread has increased from 1.06 in early March to 3.83 on Tuesday, which compares to the jump from 1.00 in June 2008 to 4.63 with the forced liquidation in 2008. By this indicator the distress has yet to match that of 2008.

Three-month Libor has increased from 0.252% in early March to 0.536% this week. This compares to the run from 2.75% in June 2008 to 4.82% in the panic that ended that November. On this liquidity problem the Libor rate has doubled, which since it broke out in April has had our attention. The "double" may have something to do with the exceptionally low rate, but the uptrend has been the warning. Probably has further to go before this return of trouble culminates.

The VIX got some headlines on its way from 15.23 in mid April to 48.2 last week. This compares to the exceptional high of 89.5 in late 2008. Highs with other problems in 2002 and with LTCM in 1998 were at the 45 level. The move has been dramatic, suggesting a rest in the stock markets for a while.

Can the VIX reach higher levels? Yes, and if it does it would be under very severe pressures.


Wednesday's ChartWorks Bonds-Technical Alert reviewed the pattern leading to an important top for the long bond future. This is a stand-alone study that does not relate to any setbacks with the rebound in stocks and commodities.

Our big picture view has been that a reversal in the treasury curve and credit spreads was possible in April-May and this worked out. The main thing is that the change would break rather intense speculation and end the big financial rebound out of March 2009.

For us, the curve was expected to run inverted until as late as June 2007 and in reversing to steepening would signal the end of the bubble. This began to change in that fateful May, and as with previous great bubbles signaled the collapse.

It took until the panic ended a year ago in March before the tout about steepening enhancing bank earnings. This was fully into bank stocks five weeks ago, when the sector became vulnerable to the potential change to flattening.

Beyond eventually assisting commercial and investment banks, steepening became one of the carry trade items and after 2.5 years "everyone" was aggressively positioned. The culmination of a one-way trade is always interesting and ultimately expensive to those offside.

The turn to steepening in 2007 was "bad" in marking the end of the bubble. This year’s turn to flattening will be "bad" in marking the end of the big rebound out of the initial crash. It will also take away the "positive" carry for most banks.

As with the change in 2007, the turn to widening credit spreads is extremely important. While not widely announced, the change in short-dated stuff in April was anticipating the hit to long corporate bonds.

The Ted Spread began to widen in late March and by early April it was moving fast enough to provide warning. Although not a spread, the rise in the Libor rate was another warning.

Corporate bond spreads, which had enjoyed outstanding speculative interest on the carry trade, narrowed into mid April. As an example the high-yield came into 336 bps, over treasuries and has widened to 526 bps. It took fourteen weeks to narrow from 526 bps and only five weeks to reverse it.

With the hit, the yield increased from 8.08% in mid April to 9.33%, which is also in the right direction. With some trading swings this can continue to dislocating conditions later in the year.


Late last week the Dollar Index registered a daily Upside Exhaustion as the euro registered the opposite. The high close for the DX was 87.3 yesterday and the correction could last for a week or so.

With the setback in commodities, the Canadian dollar was likely to decline to around 93. The low close was 93.4 yesterday and the rebound could make it to 97.


-Bob Hoye
Institutional Advisors

Hoye Archives

The opinions in this report are solely those of the author. The information herein was obtained from various sources; however we do not guarantee its accuracy or completeness. This research report is prepared for general circulation and is circulated for general information only. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. Investors should seek financial advice regarding the appropriateness of investing in any securities or investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized.

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